How does a holding-period yield differ from an overall capitalization rate?
Correct Answer
B) It reflects return across the modeled income and terminal benefits over time.
A yield rate discounts dated benefits over an investment horizon and reflects total return for the modeled cash-flow interest. An overall cap rate is a single-period income/value relationship. There is no universal ordering, and yield approximately equals cap plus growth only under particular compatible assumptions.
Why This Is the Correct Answer
Option B is correct because a holding-period yield reflects return across the modeled income stream and terminal benefits over time. Yield capitalization discounts each future benefit, including the reversion, at an appropriate yield rate. An overall cap rate is a single-period income-to-value ratio.
Why the Other Options Are Wrong
Option A: It only converts one year’s NOI directly to value.
Option A says the yield only converts one year's NOI directly to value. That describes the overall capitalization rate used in direct capitalization, not a holding-period yield.
Option C: It applies exclusively to all-cash purchases.
Option C says a yield applies exclusively to all-cash purchases. Yield rates can be applied to property, equity or debt positions and are not limited to all-cash transactions.
Option D: It must be numerically below the overall cap rate in each income-property analysis.
Option D says the yield must be numerically below the overall cap rate in each income-property analysis. There is no universal ordering; the relationship depends on expected income and value change.
Yield sees the whole trip
A cap rate is a snapshot of one year; a yield rate measures the whole holding period, including the sale at the end.
How to use: Use this to distinguish yield-rate answers from cap-rate answers.
Exam Tip
Be cautious of choices that impose a fixed numerical ordering between yield and cap rates; the relationship depends on assumptions.
Common Mistakes to Avoid
- -Treating a yield rate as a one-year income ratio
- -Assuming the yield rate must be lower than the cap rate
- -Thinking yield rates apply only to all-cash buyers
Concept Deep Dive
Analysis
This question tests the difference between a yield rate and an overall capitalization rate. A yield rate reflects total return over a holding period, including income and terminal benefits, while an overall rate expresses a single-period income-to-value relationship. There is no fixed ordering between them.
Background Knowledge
Yield capitalization converts future benefits to present value by discounting each at a yield rate, or by developing an overall rate that reflects income pattern, value change and yield. Direct capitalization uses a single year's income and an overall rate.
Real-World Application
For a property with rents expected to rise over a ten-year hold, an appraiser models annual cash flows and a resale and discounts them at a market yield rate. The appraiser also checks the result against direct capitalization using a current overall rate.
More Income Approach Questions
Which model describes yield capitalization of property benefits?
An appraiser is valuing a duplex. A market survey of recent duplex sales reports prices at 10.8 times potential gross income, with stabilized vacancy and credit loss of 10% of PGI and no other income. The subject's rent schedule is unavailable, but the property manager's records show collected income of $54,000 a year, in line with market rent and the 10% market loss. What value is indicated?
The subject property is a fourplex with annual EGI of $72,000 and operating expenses of $28,800. Of those expenses, $18,000 is fixed and $10,800 varies in direct proportion to EGI. The owner's annual mortgage payments are $21,000. An appraiser projects that EGI will fall 10% because of higher vacancy. What is the projected NOI?
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