The first video below explains how investors determine the discount rate overall while the second one demonstrates how to use excel to understand the basic concepts of discount rates from the real estate perspective.

The factors that you need to decide upon come from a combination of the “risk-free rate” and the “risk premium” that you need to receive as an investor.

Factors that many investors take into account when determining the risk premium would include, the length of the investment, opportunity costs, inflation, market stability, etc., and as you can see from the videos, the discount rate is ambiguous.

Historically, investment grade real estate have about a 3.5% risk premium over the 1-year treasury – so that would indicate that a return of 5% is expected. But, you are not going to hold the investment for 1 year, rather real estate investors take a long-term approach to their portfolio’s, so you need to account for the other factors that you expect to occur over the long-term when you decide what your risk premium should be.

After watching these two video’s, please identify the rate you need from the real estate investment perspective compared to what you would “need” from the normal investment opportunity (stocks & bonds). Make sure that you take the approach of the big investor and not the small personal one when determining the rate.

Provide the total discount rate value X% and the breakdown of components that you included to get to this value for both investment classes. Explain the values that you are using to determine the risk premium.

 

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