The capitalization rate ("cap rate") and the occupancy rate are the two numbers that drive almost every conversation about real estate fundamentals. The cap rate is the unlevered first-year yield a property throws off — net operating income (NOI) divided by asset value — and it doubles as the market's pricing dial: divide NOI by a cap rate and you get a valuation. Occupancy is the input that produces that NOI in the first place: the share of space (or revenue) that is actually filled and paying. The core tension is that both numbers look simple but hide enormous definitional ambiguity, and the cap rate in particular is backed into from prices rather than observed cleanly — so it is as much a sentiment gauge as a fundamental.

How they're calculated

Cap rate = NOI ÷ property value. NOI is rental income plus reimbursements, minus operating expenses (maintenance, property management, insurance, property taxes) — but before debt service, income tax, capital expenditures, and depreciation. A property with $80,000 NOI selling for $1,000,000 carries an 8% cap rate (JPMorgan, PropertyMetrics). Inverting it gives value: Value = NOI ÷ cap rate, so $500,000 of NOI valued at an 8% required cap rate is worth $6.25M.

There is no single cap rate. Green Street and others note it is quoted many ways: in-place (trailing NOI) vs. forward/stabilized (projected once lease-up completes); nominal vs. economic (the latter deducts a normalized capex/reserve and straight-lines free rent); gross vs. net. Two analysts can quote wildly different cap rates on the same building, which makes cross-deal comparison treacherous.

Occupancy splits into two distinct measures that are routinely confused:

• Physical occupancy = occupied units (or square feet) ÷ total available. Bodies in beds.
• Economic occupancy = rent actually collected ÷ gross potential rent. Dollars in the bank.

Economic is almost always lower, because free-rent concessions, loss-to-lease, and delinquency mean a physically full unit can collect less than full rent (MRI Software, Willowdale). A 95% physical / 88% economic gap flows straight to lower NOI — and therefore distorts any cap rate computed off it. A third figure, the leased rate, counts signed leases not yet rent-paying and runs above physical occupancy; the leased-minus-occupied gap is forward NOI not yet realized.

How they're used in practice

For REIT analysts the chain runs: occupancy + rent → same-store NOI growth → and separately, an implied cap rate that the stock price assigns to the portfolio. The implied cap rate divides estimated portfolio NOI by enterprise value (equity market cap + net debt). Comparing the implied (public-market) cap rate to transaction/appraisal cap rates in the private market reveals whether a REIT trades at a premium or discount to its net asset value (NAV) — a primary REIT valuation lens (Winvesta, Green Street). When implied cap rates sit well above private-market cap rates, the REIT is cheap relative to its bricks.

Cap rate movement decomposes value changes. Cap rate compression (rates falling) lifts values even with flat NOI; expansion destroys value. Occupancy and releasing spreads (new rent vs. expiring rent) drive the NOI numerator; tenant retention lowers the re-leasing capex drag. Strong operators chase both: Realty Income reported 98.7% portfolio occupancy as of Dec 31, 2024, and Simon Property Group reported 96.5% occupancy for its U.S. Malls and Premium Outlets at the same date (company Q4 2024 results) — point-in-time figures that drift each quarter.

Adoption, debate & evidence

Cap rate and occupancy are universal, non-controversial vocabulary across appraisers, lenders, brokers, and REIT investors. The genuine debates are subtler.

The biggest is the cap-rate-tracks-interest-rates assumption. It is widely repeated that cap rates move with the 10-year Treasury, but the data is looser than the folklore. A TIAA study found only a moderate ~0.7 correlation between cap rates and 10-year yields over 1992–2015, and Morgan Stanley analysis found the rolling 5-year correlation swung from strongly positive to negative — in several rising-rate episodes cap rates actually moved the opposite way (mmcginvest data note). Cap rates track real rates, credit spreads, and inflation expectations better than nominal Treasuries; one MetLife estimate put a 100bp rise in Moody's Baa corporate yields at roughly 92bp of cap-rate increase. The cap rate spread over Treasuries is itself unstable: different sources quote long-run averages anywhere from roughly 200–340bp (e.g. CBRE cites ~342bp over 1991–2019; other data notes ~2.4% over 25 years), with the spread ranging from negative (1980s inflation) to 400bp+ (2009 distress) and compressing to under 200bp by 2024–25 — these are commonly cited estimates, not constants, and vary by source, property type, and period.

Sector dispersion is the other key empirical point. Post-COVID, industrial cap rates stayed lowest (e-commerce demand) while office cap rates blew out — REIT-implied office yields reached ~10% by 2023 amid occupancy collapse (Seeking Alpha). Occupancy itself is informative: Nareit notes public equity REITs have run industrial, apartment, and retail occupancy above ~95%, generally higher than private-market peers, which it attributes to asset selection and management quality.

Strengths & limitations

Cap rates are an elegant, comparable, leverage-neutral yardstick — they let you price across markets, sectors, and public vs. private. They work best for stabilized, income-producing assets. They fail badly for development, heavy value-add, or vacant property where year-one NOI is unrepresentative (a near-empty building has a near-zero or meaningless cap rate). The single most common misuse is comparing cap rates that aren't computed the same way — in-place vs. forward, with or without a capex reserve — and treating the result as a like-for-like signal. A second trap is reading cap rate purely as risk; a low cap rate can mean a safe asset or an overheated market, and only NOI-growth expectations disambiguate.

For occupancy, the #1 error is quoting physical occupancy and implying it's cash flow — concessions and delinquency mean economic occupancy is what services debt and produces real NOI. Lenders underwrite to economic occupancy precisely for this reason (IREM cites ~90%+ as a solid threshold).

Sources

• JPMorgan Chase — Cap Rates, Explained
• PropertyMetrics — The Cap Rate: What You Should Know
• Green Street — Many Ways to Quote a Cap Rate
• mmcginvest — Cap Rates and Interest Rates: A Data Note (TIAA ~0.7 correlation; Morgan Stanley rolling-correlation; MetLife Baa pass-through; spread history)
• MRI Software — Economic vs. Physical Occupancy
• Willowdale Equity — Economic vs Physical Occupancy
• Nareit — REIT Occupancy Rates
• Seeking Alpha — Cap Rates Reveal Opportunistic REIT Property Sectors (sector cap rate dispersion)
• Realty Income — Q4/FY2024 Operating Results (98.7% occupancy at 12/31/2024)
• Simon Property Group — Q4/FY2024 Results (96.5% U.S. malls/outlets occupancy at 12/31/2024)
• CBRE — Cap Rate Spread context (~342bp spread 1991–2019; recent compression)
• Winvesta — Real estate company analysis: NAV and cap rates

Dispute flag: the cap-rate/interest-rate correlation is genuinely contested — "cap rates follow the 10-year" is folklore that the data only partially supports. Spread and correlation figures are commonly cited estimates that vary by source and period.