Is a property worth less just because it takes longer to sell? The answer is yes.
When you are looking at real estate deals, it is easy to get fixated on the price or the potential rent. But there is a hidden risk that many investors forget: Liquidity.
If you buy a property in a popular neighborhood, you know you can sell it quickly if you need cash. But what if you are buying in a slower market? What if the average house there sits for six months before selling?
You need to be compensated for that risk. This guide explains a simple “Rule of Thumb” professional investors use to calculate exactly how much of a discount you should get for buying hard-to-sell properties.
Liquidity Discount Calculator
Rule: Adds ~25bps for every 1x increase in Days on Market (DOM) over the baseline.
📚 First: A Simple Dictionary (The Terms You Need to Know)
Before we explain the rule, let’s break down the financial jargon into plain English.
Liquidity: How quickly you can turn an asset (like a house) into cash. Cash is 100% liquid. A house that takes a year to sell is “Illiquid.”
DOM (Days on Market): The number of days a property sits listed for sale before someone buys it. Low DOM means a hot market; High DOM means a slow market.
Basis Points (bps): A fancy way of saying percentages. 1 Basis Point = 0.01%. Therefore, 50 bps = 0.50%.
Cap Rate (Capitalization Rate): The annual rate of return you expect to generate from a real estate investment.
Formula: Net Operating Income ÷ Property Price.
NOI (Net Operating Income): The money the property makes in a year after you pay all expenses (taxes, insurance, maintenance) but before you pay your mortgage.
Comps: Comparable properties. These are similar houses nearby that sold recently, used to judge the value of the deal you are looking at.
The Rule: The “Liquidity Penalty”
Here is the core concept: Time is money.
If you are buying a property in a sub-market where it takes 3x longer to sell than average, you should demand a higher return on your investment to make it worth the wait.
The 50-bps Rule of Thumb:
If the local Days on Market (DOM) is 3 times longer than the average, add 50 basis points (0.50%) to your required Cap Rate.
By raising your required Cap Rate, you effectively lower the price you are willing to pay. This difference in price is your “safety margin” for buying an illiquid asset.
🧮 How It Works (Real Life Example)
Let’s look at the math. This shows you how a tiny percentage change can save you hundreds of thousands of dollars.
The Scenario:
You are looking at a commercial building or apartment block.
Average Market DOM: 60 Days (Most properties sell in 2 months).
Target Property DOM: 180 Days (Properties here take 6 months to sell).
The Difference: This market is 3x slower (180 ÷ 60 = 3).
The Calculation:
Normal Cap Rate: usually, you would buy this type of building at a 5.5% Cap Rate.
The Adjustment: Because it is slow to sell, you apply the rule. Add 50 bps (0.5%).
New Target: Your new required Cap Rate is 6.0% (5.5% + 0.5%).
The Impact on Price:
Let’s say the building generates $600,000 a year in profit (NOI).
Price at 5.5% Cap Rate:
$$600,000 / 0.055 = \mathbf{\$10,909,090}$$Price at 6.0% Cap Rate:
$$600,000 / 0.060 = \mathbf{\$10,000,000}$$
💡 The Result
By changing your requirement from 5.5% to 6.0%, the purchase price dropped by roughly $900,000.
That $900k is your “Liquidity Haircut.” It is the discount you need to justify locking up your money in a slow market.
⚠️ When Should You Use This Rule?
This isn’t a law of physics; it’s a quick filter to keep you safe.
✅ Use it when:
Screening Deals: You are looking at 10 different properties and want to quickly see which ones are overpriced.
Comparing Areas: One building is in a hot city center (Liquid), and the other is in a quiet suburb (Illiquid). This rule helps you compare apples to oranges.
Making an Offer: It gives you a logical reason to explain to the seller why your offer is lower. “I love the property, but since homes here take 6 months to sell, I have to adjust for that risk.”
❌ Be careful when:
The Data is Wrong: If only one house sold in the last year, the “Days on Market” data might be a fluke.
You Hold Forever: If you plan to keep this property for 30 years and leave it to your children, liquidity matters less to you. You don’t care how long it takes to sell because you aren’t selling.
One-Off Events: Did a hurricane or a brief economic panic cause the slow sales? If the slowdown is temporary, you might miss a good deal by being too strict.
Summary Cheat Sheet
If DOM is 2x average: Add 25 bps (0.25%) to your Cap Rate.
If DOM is 3x average: Add 50 bps (0.50%) to your Cap Rate.
If DOM is 4x average: Add 75–100 bps (0.75%–1.00%) to your Cap Rate (and be very careful!).
Investing is about protecting your downside. By using the 50-bps Rule, you ensure that you are paid for the risk of waiting.
