Multifamily real estate is a fantastic investment, but how do you decide which deal is the right one to invest in?

Two different multifamily investment firms will make similar claims about their track record and the potential to profit on their next deal or fund. So who do you invest with? Which deal will you choose? We break this down into the following decisions:

  • Who is sponsoring the deal?
  • What market is the deal in?
  • What is the cap rate?

Read on for the definitive guide to evaluating and comparing multifamily real estate deals.

Who is sponsoring the deal?

We’ve covered how to evaluate a real estate syndication firm, but for a quick rundown you should compare:

  • Each firm’s track record
  • How experienced the management team is
  • The holding and exit strategy of each firm

Even the best real estate deals could perform poorly with the wrong sponsor, so this is an important aspect to review when comparing deals. We recommend selecting a firm with a strong track record, experienced management team, and exit strategy that aligns with your goals. 

What market is the deal in?

The market you invest in is critical, so this is the second thing you should compare when evaluating deals. We recommend evaluating the market in the following ways:

  • Is it a growing sector of the country
  • Is the job market thriving
  • How is real estate currently performing

Is this a growing sector of the country?

Look for growing sectors of the country. These are areas where populations (and real estate values) are climbing, job opportunities are strong, and the market is resilient to downturns. 

For example, Atlanta Georgia is a tech hub in the South and has one of the most active airports in the world.

Is the job market thriving?

Another way to evaluate a market is to look at the job opportunities there. 

For example, in the United States, there are several tech hubs outside of Silicon Valley that are worth investing in. Biotech, finance, and education are strong industries as well that retain employees and maintain the value of real estate.

What is real estate going for currently?

Compare real estate values over time, as well as income levels and occupancy rates in the market. 

All of these signify whether this is a strong market that will hold or increase its value (though there are no guarantees). In the industry, the term “loss to lease” will be used here which relates to the rate at which the investment is charging for rent compared to surrounding real estate. If the property is charging top-dollar and banking on values increasing, this creates significant risk and may be a concern.

What is the cap rate?

Cap rate is a metric for determining the health or cash flow of a property before you buy it. You take the net operating income without debt or debt service and divide that by the purchase price. This tells you what your yield is for the investment.

Why cap rate matters

The cap rate indicates the potential return for the deal. For example: a 7% cap rate is greater than 4%, so the deal with a 7% cap rate is more attractive. 

A lower cap rate can be risky, especially in periods of high interest rates (such as we’re seeing in 2023). If the sponsor purchases at a 4% cap rate but borrows at 6% this is called negative leverage. If your cap rate is equal to the borrowing interest rate then you have neutral leverage, and if your cap rate is higher than the borrowing interest rate you have positive leverage

Cap rates and interest rates usually follow one another with cap rates lagging behind the rates. That is why it is important to pay close attention to the projected exit cap rate as it can tell you whether the sponsor is doing their due diligence on the deal or being overly optimistic about projected returns. 

For example, if a firm is going to hold for five years and exit and interest rates are currently 6%, if they determine a cap rate that is 4.5% – 5.25% they are optimistic that interest rates will come down. Some firms though will project exaggerated exit cap rates that can appear well thought out but are in actuality risky. 

Look for a firm that presents an attractive – but conservative – cap rate for its deals.

Ready to invest in multifamily real estate? Here’s how to make sure it’s the right deal for you

Multifamily real estate is a fantastic investment, but you need to make sure you invest in the right deal (and with the right firm). Look for real estate deals:

  • Sponsored by a firm with a strong track record
  • In growing and stable markets
  • A conservative, yet attractive, cap rate

If you’re ready to reap the many benefits of investing in multifamily real estate then take the next step to invest in the Catalyst Fund III by Colony Hills Capital. At Colony Hills Capital we specialize in purchasing value-add multifamily real estate properties, allowing our investors to benefit from passive income as well as the appreciation of each property when it is sold. Past performance is no guarantee of future results.