What Capitalization Rates Are Telling CRE Investors

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Canadian Cap Rate Outlook

Capitalization rates (cap rates) are one of the most closely monitored metrics by investors, lenders, and analysts in the commercial real estate sector, as they reflect the market’s collective confidence or concern about an asset. Cap rates aren’t set by any one party, but rather the interaction of market forces. They emerge from transactions which reflect the collective expectations of buyers, sellers, lenders and appraisers, which are influenced by broader economic conditions.

National Overview of Trends in Cap Rates by Asset Class

In today’s volatile and uncertain economy, cap rates can serve as a reflection of investor sentiment. When markets are deemed risky, investors demand higher returns, which pushes up cap rates. Conversely, when conditions are viewed as stable and predictable, investors are more comfortable with lower returns, and cap rates tend to compress. This movement matters because it alters values, financing, deal activity, and where investors allocate their capital. Even a slight change in cap rates can ripple across the entire market.

Chart 1: Average National Cap Rates by Asset Type in Canada

Source: Colliers Q2 2025 Cap Rate Report, Peakhill Capital

As shown in Chart 1, average cap rates have risen across all asset classes over the past five years, primarily in response to central bank interest rate hikes. Higher rates increased borrowing costs and pushed up bond yields, which in turn, placed upward pressure on cap rates. Since then, cap rates have continued to trend upward across all asset classes as interest rates remain high.

For investors, it is important to understand that property value is inversely related to cap rates, meaning today’s rising cap rates compress property valuations. Financing, as a result, gets tighter as the loan-to-value ratio narrows. For buyers, this means bringing more equity to the table to facilitate a successful closing of deals. Although this chain reaction is a useful framework for understanding how today’s market conditions have resulted in higher cap rates, it is essential to remember that cap rates are ultimately determined by the market, which is a blend of risk perception, interest rates, and investor competition.

Furthermore, high cap rates aren’t automatically “bad”. They usually signal higher risk, but also higher potential returns. The key is whether the additional return truly compensates for the risks in that market or asset. The opposite is also true; compressed cap rates aren’t inherently “good” or “bad”. They can reflect strong investor demand and perceived stability, but they can also increase pricing risk if fundamentals or interest rates change.

A Closer Look into Multifamily Cap Rates by Region

Core markets, such as Toronto, Vancouver, and Montreal, are exhibiting lower cap rates, reflecting strong investor demand and perceived stability, as well as tighter yields. Notably, Vancouver and Toronto show some of the most compressed ranges, a sign of sustained competition despite economic uncertainty.

Chart 2: Low-Rise Multifamily Cap Rates by Region Q2 2025

Source: Colliers Q2 2025 Cap Rate Report, Peakhill Capital

Markets such as Calgary, Edmonton, and Halifax are displaying the widest spreads, with high cap rates reaching the 6% range. This illustrates both opportunity and risk where investors can achieve higher yields, but variability reflects uncertainty tied to local economies and rental fundamentals.

Overall, the spread between the lowest and highest benchmarks is telling. Markets with the largest gaps signal greater divergence in investor outlook, risk appetite, and asset quality. In the current environment, where economic volatility and interest rate uncertainty play a significant role, these ranges highlight how cap rates are shaped not only by national trends but also by region-specific dynamics.

Cap Rate Outlook

The Bank of Canada (BoC) held rates on June 4th at 2.75% but is widely expected to cut rates on September 17th in response to Statistics Canada’s August 2025’s job report, which showed unemployment rose to 7.1%.¹ Although rate cuts may be a welcome change for investors, as cap rate compression may occur, interest rates remain high as compared to historic lows during the 2020-2022 period. As such, multifamily cap rates could stay elevated or move up, conveying that the relief of a cut may not be enough to immediately ease cap rate pressure in the near term, as borrowing costs and risk premiums remain elevated.

Markets with higher existing spreads, such as Calgary, Edmonton, and Halifax, may see further pricing adjustments as investors demand compensation for increased volatility. Core markets, such as Toronto, Vancouver, and Montreal, are anticipated to remain more resilient; however, even these major cities are unlikely to see significant compression until interest rate clarity improves. Overall, cap rates are likely to stabilize at higher levels, with regional divergence persisting as fundamentals and investor perspectives vary across markets.

What This Means for Borrowers and Investors in Commercial Real Estate

1. Underwrite for stability, not a sudden recovery.
   • Across Canada, cap rates are holding broadly steady. Base cases should assume flat to modest cap rate movement through year-end. In cases where pro-forma compression is built in, such as for stabilized new builds, justify it with near-location leasing depth (rental rate growth, absorption, and vacancy) and lease-up evidence (signed leases, speed of lease-up, and reduced concessions on free rent), rather than relying solely on rate-driven optimism.
2. Financing strategy matters as much as price.
   • With the Bank of Canada holding policy rates and mortgage spreads a touch wider in Q2, structuring matters as much as cap rates. The latest CMHC program adjustments introduced on July 3, 2025, have led to greater reliance on conventional construction financing. That said, CMHC-insured five-year terms remain the dominant option for long-term financing. CMHC-insured execution continues to improve outcomes in coverage and proceeds. For construction loans, carefully budget interest and maintain a debt-service coverage ratio (DSCR)-driven contingency. This is especially true if lease-up takes a quarter longer.
3. Buy the right risk premium, not the highest yield.
   • Investors should be selective in pursuing yield. The strongest long-term performance often comes from paying slightly tighter cap rates in locations and assets with strong demand drivers, rather than chasing higher initial yields that downtime, leasing costs, or increased incentives may diminish. In an environment where uncertainty is keeping cap rates broadly stable, borrowers and investors should focus less on predicting rapid shifts and more on strategies that create resilience.

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ICYMI: Whether you’re an investor keeping an eye on Canada’s multifamily space or a developer navigating CMHC changes, tune into our recent episode below.

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Footnotes

1. Canadian Mortgage Trends. 2025. Lenders flip Bank of Canada calls to cuts after ugly jobs report. ↩︎

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This article is for information and discussion purposes only. The contents of this article are not to be construed as investment, legal, business, or tax advice. Peakhill does not provide tax advice. Please consult with a qualified tax professional or financial advisor to understand how any investment decision may impact your individual tax situation. If any information related to the contents of this article, or regarding Peakhill’s corporate strategy and organization, is provided at any time, orally or otherwise, such information is provided as a convenience only without representation or warranty as to its accuracy or completeness and should not be relied upon without independent investigation and verification.  All investments carry risks, and past performance is not indicative of future results.