Property Investment Glossary

Appreciation Rate This is also referred to as capital return and it represents the percentage change in the market value of a property over a given period. It is calculated as the difference of the value at the end of the period from the value at the beginning of the period, over the value at the beginning of the period.

Bargain Properties
Properties that can be bought significantly below their market value due to special circumstances, such as foreclosure, tax delinquency, and bankruptcy.

Capital Gain The dollar difference between the purchase and the sales price of a property.

Cap Rate Spread The difference between the market cap rate and the interest rate, usually the 10-year Treasury rate. Since the 10-year Treasury rate represents the risk-free rate, the cap rate spread in essence reflects the risk premium real estate investors are willing to pay to own real estate.

Capitalization Rate (Cap Rate) The ratio of NOI of the property at the time of sale over its sales price. This ratio represents the required income return by investors active in the marketplace. However, due to the lack of transaction data, market capitalization rates are often estimated using actual Net Operating Income (NOI) over the property’s fair market value.

Compatibility Recovery Potential
The potential of a property for value gains due to the removal of nearby incompatible uses that undermine its value.

Complementarity Improvement Potential The potential of a property to become more complementary to neighboring uses. Improvement of complementarity does not necessarily imply increases in values if it is associated with a downgrade of the property.

Construction Lag The time that it takes to perceive, plan, and construct a project. This time can range from 18 months to several years, depending on the size and nature of the project.

Correlation A statistical measure indicating the extent to which movements in one variable are related to movements in another variable.

Development-Driven Value Increases Property-value gains triggered by major urban and transportation development projects, or developments specific to the location of a property, which improve its attractiveness and income-earning potential.

Discounted Cash Flow (DCF) Model A mathematical formulation that takes into account all cash flows expected to be earned by a property over a given holding period, as well as the resale price at the end of the holding period, and discounts them to the present using an appropriate rate in order to estimate the property’s investment value.

Equity Investment The amount of investor’s own money used to finance investments in real estate (purchase and/or development).

Encumbrances Encumbrances include claims of use (not ownership) or monetary claims that may burden a property, such as right of way, maintenance agreements, homeowner association assessments, and utility easements.

Highest and Best Use The most profitable use to which a site can be legally developed.

FAR Abbreviation for the ratio of buildable floor area over land area (floor/area ratio).

Going-in Capitalization Rate The capitalization rate used to estimate the entry or purchase price of the property based on its first year NOI. This is also referred to as initial yield.

Internal Rate of Return (IRR) The periodic (annual, quarterly, etc.) rate of return of an investment. This is calculated as the discount rate that equalizes the purchase price with the present value of all cash flows expected to be received over a given holding period, including the resale price at the end of the holding period.

Leveraged Return The return of an investment, taking into account the effect of borrowed funds.

 Liens The term “lien” refers to any charge or encumbrance against a property that secures the payment of a debt. For example liens may include past due property taxes, judgments, and other mortgage loans that may burden a property.

Market-Driven Value Increases Value increases triggered by increases in demand because of economic growth in the broader market area of a property.

Migration Relocation across jurisdictional boundaries, the definition of which varies, depending on the geographic scope and context of the analysis. Within the context of this book, the more appropriate boundaries for examining migration patterns are the metropolitan area boundaries.

Mortgage Constant The percent of the original loan amount that needs to be paid periodically in order to fully repay the loan over the term of the loan.

Negative Leverage Refers to the negative effect of borrowed funds on an investment’s overall return. This occurs when the loan used to finance the purchase of a property is such that the mortgage constant is greater than the investment’s unleveraged return.

Net Migration The difference between immigration and out-migration.

NOI Abbreviation for net operating income, calculated as the total income earned by the property (rental income, plus other income) minus operating expenses.

NCREIF National Council of Real Estate Investment Fiduciaries.

Outbidding The phenomenon during which one user is involuntarily displaced by another user who is willing and can afford to pay a higher price.

Positive Leverage The use of borrowed funds to increase the investor’s rate of return. Positive leverage is possible when the loan used to finance the purchase of a property is such that the mortgage constant is smaller than the investment’s unleveraged return.

Price Elasticity of Demand The sensitivity of quantity demanded to changes in prices. It is measured as the ratio of the percentage change in quantity demanded over the percentage change in price. If the absolute value of this ratio is less than one, then demand is characterized as price inelastic. Investors looking for markets that will allow for greater price increases in response to increases in demand should be looking for areas and property types with price inelastic demand.

Price Elasticity of Supply The sensitivity of quantity supplied to changes in prices. It is measured as the ratio of the percentage change in quantity supplied over the percentage change in price. If the absolute value of this ratio is less than one, then supply is characterized as price inelastic. Investors looking for markets that will allow for greater price increases in response to increases in demand should be looking for areas and property types with price inelastic supply.

Primary Trade Area The area from which a retail center or cluster draws primarily its customers.

Private Urban Renewal Inner-city neighborhood revitalization primarily originated and carried out by private population and business groups.

Public Urban Renewal Inner-city neighborhood revitalization primarily originated and encouraged by the local government.

Refinancing Replacement of existing secured loan through another loan using as collateral the property through which the original loan is secured. Refinancing is typically pursued in order to secure a loan with better terms (lower interest rate, shorter or longer term, etc.) or to switch from an adjustable rate mortgage to a fixed-rate mortgage.

Second Mortgage Loan using as collateral a property that has already been used as collateral for another loan.

Structural Vacancy Rate The minimum vacancy rate needed to allow normal search processes by buyers/renters looking for properties, and landlords looking for buyers/renters. According to empirical studies, this should vary across metropolitan markets, but it is difficult to accurately quantify.

Terminal Capitalization Rate The capitalization rate used to estimate the resale price of the property at the end of the holding period.

Title Insurance Insurance policy issued by a title insurance company that protects the buyer against liens and encumbrances not discovered in the title search. Its cost is typically based on the value of the property under consideration.

Unleveraged Return is the return of an investment, assuming that no borrowed funds are used.

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