Cap Rate Spreads vs Treasury
Cap Rate Spreads vs Treasury
A cap rate spread is the difference between a real estate asset's cap rate and the 10-year U.S. Treasury yield. It measures the premium investors demand for holding illiquid real estate versus risk-free government bonds.
Key takeaways
- Spread = property cap rate − 10-year Treasury yield. If cap rate is 5% and Treasury is 3%, the spread is 200 basis points (2%).
- Spreads expand (increase) in uncertain markets; they compress (decrease) in confident markets. Tight spreads signal investor appetite; wide spreads signal fear.
- Post-2008 crisis, spreads blew out to 300–400+ basis points. During 2015–2021 low-rate period, spreads compressed to 100–150 basis points. As rates rose in 2022–2023, spreads re-expanded.
- Cap rate spreads help you assess relative value: when spreads are historically tight, real estate is expensive relative to bonds. When spreads are wide, real estate offers higher yields per unit of risk.
- Spreads matter because real estate is less liquid, leveraged, and operationally complex than Treasury bonds. The spread compensates for those risks.
Understanding the spread
At its simplest, the spread answers: "How much extra yield am I getting from real estate versus safe government bonds?"
If the 10-year Treasury yields 3% and a property cap rate is 5%, you're earning an extra 2% (200 basis points) by holding real estate. That 2% compensates you for:
- Illiquidity: Selling a rental property takes 1–3 months. Selling Treasury bonds takes seconds.
- Leverage risk: If you financed the property at 6% debt cost, your cap rate spread narrows significantly. You're borrowing at 6% to earn 5%—a negative spread before any operational issues.
- Operational risk: Tenants default, roofs leak, markets soften. Treasuries don't.
- Concentration: You might have 50% of your wealth in one property. Treasury bonds diversify easily.
The spread is the market's way of pricing these risks. A reasonable spread for multifamily is 150–250 basis points (cap rate 1.5–2.5% above Treasury). For riskier assets like hotels or retail, expect 250–400+ basis points.
Historical spread evolution
2007 (pre-crisis): Treasury was 4%, multifamily cap rates were 4.5–5%. Spread: 50–100 basis points. Investors were complacent; real estate traded at razor-thin premiums over risk-free bonds.
2009–2010 (post-crisis panic): Treasury collapsed to near 0%; cap rates blew out to 7–8% as investors demanded premium compensation. Spreads exploded to 700+ basis points. Fear was the dominant driver.
2012–2014 (recovery): Treasury 2–3%; multifamily cap rates 4.5–5.5%. Spreads settled at 200–300 basis points as confidence returned.
2015–2021 (low-rate era): Treasury stayed 1–2%; cap rates fell to 3–4.5% as investors flooded into real estate seeking yield. Spreads compressed to 100–200 basis points. This period generated the most cap-rate compression in modern history.
2022–2024 (rate hiking): Treasury rose to 4–5%; cap rates expanded to 5–7% as leverage became expensive. Spreads re-expanded to 150–250 basis points. By mid-2024, some distressed real estate traded at much wider spreads (300–400+ basis points) reflecting seller desperation.
Why spreads matter for valuation
Spread changes drive cap-rate movements independent of fundamental property quality. Imagine a property with stable $100,000 NOI:
Scenario A (2020): Treasury 0.5%, spread 150 bps (1.5%). Property cap rate = 2%. Value = $5,000,000.
Scenario B (2024): Treasury 4.5%, spread 150 bps (1.5%). Property cap rate = 6%. Value = $1,666,667.
The property hasn't changed. Its NOI is still $100,000. But the spread compression (from 150 bps in 2020 to 150 bps in 2024) combined with higher Treasury yields means the same property is worth 67% less due to macro conditions, not property quality.
This is why real estate investors obsess over spreads. Understanding whether a change in cap rates is driven by spread compression/expansion (macro) or fundamental NOI decline (micro) is critical to sizing risk.
Treasury yield as the baseline
The 10-year Treasury is the risk-free baseline. It represents what you can earn with zero credit risk, zero operational risk, and perfect liquidity. Every dollar of excess yield from real estate is compensation for those missing features.
When Treasury yields are low (2020: 0.5%), even a 3% property cap rate feels expensive relative to zero risk-free yield. When Treasury yields are high (2024: 4.5%), a 6% cap rate feels more reasonable—you're only earning 1.5% extra for illiquidity and risk.
Professional investors use the 10-year Treasury specifically because it matches the typical holding period of real estate investors (10 years or longer). A 30-year Treasury might be more technically correct (real estate is long-duration), but the 10-year is the market convention.
Leverage's impact on spreads
This is critical: when you finance a property, the spread changes.
Example: $1,000,000 property, $100,000 NOI, 5% cap rate. Treasury 3%.
Spread (unleveraged): 200 basis points.
Now finance 75% (borrow $750,000 at 6% interest):
NOI: $100,000
Less: debt service
(6% on $750k, 30 yrs) −$45,000
Cash flow: $55,000
Cash-on-cash (on $250k equity):
$55,000 ÷ $250,000 = 22%
Your cash-on-cash return is 22% (your actual return on your equity capital), but the underlying real estate still has a 5% cap rate. The spread is still 200 basis points—the property hasn't changed.
However, if you're borrowing at 6% and the property only yields 5%, the spread between your cost of debt and the property's yield is negative 100 basis points. You're financing a deal at cost higher than the underlying property yield. This is common in low-cap-rate markets (2015–2021), where investors buy at 3–4% cap rates while financing at 3.5–4.5%, accepting negative carry for appreciation.
Asset class spread norms
Different asset classes typically trade at different spreads relative to Treasury:
Multifamily (Class A): 150–250 bps above Treasury Industrial: 150–250 bps above Treasury Retail: 250–350 bps above Treasury (higher risk premium) Office: 300–450 bps above Treasury (much higher risk premium post-COVID) Hotels: 350–500 bps above Treasury (highest operational risk) Single-family rentals: 200–300 bps above Treasury (illiquidity premium)
When spreads tighten (e.g., multifamily goes from 200 bps to 150 bps), it usually signals investors are confident and willing to pay premium prices. When spreads widen (200 bps to 300 bps), it signals caution.
Comparing spreads across time
One of the best ways to spot value is to track historical spreads for a property type and look for outliers:
- If multifamily normally trades at 200 bps and suddenly trades at 350 bps, multifamily might be cheap.
- If retail normally trades at 250 bps and suddenly trades at 150 bps, retail might be expensive (or sentiment has genuinely improved).
By 2024, office spreads had expanded to 400–450+ bps, reflecting the remote-work shock. Some investors saw this as opportunity; others saw it as justified repricing of structural risk.
Spread flowchart
Next
Spreads expand and contract as market sentiment shifts. Understanding when spreads are wide (opportune) versus tight (expensive) helps you time entries and recognize when the market is repricing risk. But appreciation also matters. The next section covers cap-rate compression and expansion—how the same property changes value even when NOI stays flat.