The next meeting of the Federal Open Market Committee takes place Sept. 16-17. Most economists believe that the Federal Reserve will cut interest rates this time around. However, confidence concerning how much to cut rates is murkier, due to the just-released Consumer Price Index, which showed an annual inflation uptick of 2.9%.
When discussing real estate, the accepted theory is that a Fed-authorized interest rate decline means cap rates will also contract. This, in turn, could mean an increase in property valuations.
Not so fast. A report from Marcus & Millichap, “If Interest Rates Ease, Will Cap Rates Follow? Analysis Reveals More Relevant Indicator,” suggests that “empirical analysis shows that the cap rate-interest rate relationship is limited.
Digging into the Data
Marcus & Millichap analysts commented that while the 10-year yield and average cap rate “have trended lower over the past three decades,” these two metrics don’t always align. For instance:
- The 10-Year Treasury yield movement was only 40% correlated with movements in the average apartment cap rate between October 2001 and June 2025.
- In 1994 and 1996, Treasury rates spiked, while cap rates trended lower.
- From 2002 through 2006, the 10-year yield slowly rose, while cap rates dropped steadily.
- From 2006 to 2008, cap rates increased as Treasury yields quickly fell.
If Not Interest Rates, Then What?
Two words: Transaction velocity. Marcus & Millichap analysts demonstrated that “the correlation between changes in the number of trades and movements in cap rates since 2001 was 78%.”
Here’s more:
- From 2002 through 2006, transaction flow increased while cap rates decreased.
- From 2007 through 2010, trades fell and cap rates rose.
- The sales activity spike in 2021 and 2023 coincided with a cap rate decline; when trading fell beginning in 2023, cap rates went up.
Not All Black and White
The analysts commented that until recently, there was only a 30% correlation between interest rate movements and transaction velocity.
“Given higher interest rates in 2023 and 2024 directly constrained sales, if interest rates were to drop in the near future, it could encourage more transactions,” they said. Additionally, more transactions could be driven by a buildup of sidelines capital, the volume of upcoming debt maturities and recent tax reforms.
The analysts also suggested that cap rates could ease, suggesting that “Even if treasury yields do not shift down in the coming months, these additional factors are likely to encourage some added level of sales activity.”
However, don’t expect changes to occur overnight. This will take time, but could provide opportunities for investors.
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