Extracting overall rates from three apartment sales, an analyst gets 7.1%, 7.3% and 9.8%. What should she suspect about the 9.8% sale before relying on it?
Correct Answer
A) Its NOI or price hides something — distress, bad data, deferred repairs
Why this is correct: The governing concept is that extracted cap rates from sales are only as reliable as the data inputs. An outlier rate (9.8% vs. 7.1% and 7.3%) suggests potential issues such as distressed sale conditions, inaccurate NOI (e.g., inflated income or understated expenses), or deferred maintenance affecting the price. Such outliers should be investigated before use. Why the other choices are wrong: "It is simply the most conservative and therefore safest choice of the three" is incorrect because blindly choosing the highest rate is not conservative if it's based on flawed data. "The two clustered sales are the errors" is incorrect because clustered rates are more likely reliable; the outlier is suspect. "Cap rates naturally vary this widely" is incorrect while cap rates vary, a 2.7-point spread from the cluster is large and warrants scrutiny. Exam tip: Always investigate outlier cap rates for data integrity issues before reconciliation.
Why This Is the Correct Answer
Why this is correct: The governing concept is that extracted cap rates from sales are only as reliable as the data inputs. An outlier rate (9.8% vs. 7.1% and 7.3%) suggests potential issues such as distressed sale conditions, inaccurate NOI (e.g., inflated income or understated expenses), or deferred maintenance affecting the price. Such outliers should be investigated before use. Why the other choices are wrong: "It is simply the most conservative and therefore safest choice of the three" is incorrect because blindly choosing the highest rate is not conservative if it's based on flawed data. "The two clustered sales are the errors" is incorrect because clustered rates are more likely reliable; the outlier is suspect. "Cap rates naturally vary this widely" is incorrect while cap rates vary, a 2.7-point spread from the cluster is large and warrants scrutiny. Exam tip: Always investigate outlier cap rates for data integrity issues before reconciliation.
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