Most of today’s multifamily headlines highlight robust investment and new construction in gateway cities and primary markets. It’s logical for New York, Chicago and San Francisco to get their deserved profile. Market success in these major cities has been driven by effective job growth, migration and the urbanization of Millennials and boomers.
Primary markets consist of core investment capital chasing a safe bet. However, many investors are shifting focus from core investment capital and finding secure transactions in secondary and tertiary markets. These locations have more volatility, lower barriers to entry and less job growth. But with the risk comes reward.
Secondary markets consists of significant job centers and havens for growth and innovation. These marketplaces typically have populations ranging between 1 million and 3 million. In the U.S., Real Capital Analytics designates the following cities as secondary and tertiary markets:
Atlanta, Austin, Baltimore, Charlotte, Cincinnati, Cleveland, Columbus, Dallas, Denver, Detroit, Houston, Indianapolis, Jacksonville, Kansas City, Las Vegas, Memphis, Milwaukee, Minneapolis, Nashville, Norfolk, Orlando, Philly Metro, Phoenix, Pittsburg, Portland, Raleigh-Durham, Sacramento, Salt Lake City, San Antonio, San Diego, Seattle, South Florida, St Louis and Tampa Bay.
Philadelphia, Atlanta and Dallas-Fort Worth are all expansively growing and reaching population milestones. These markets are uniquely positioned for growth through continued infrastructure investment as well as continued education innovation and workforce development. Millennials are a significant influencer in this expansion through urbanization.
What makes secondary and tertiary markets a safe place to invest?
1. Less competition for product
A majority of sophisticated capital (institutions, pension funds, REITS, family offices, high net worth Individuals) are looking for core locations in primary markets to ensure steady return on investment. Current market conditions consist of immense liquidity as the most active players are desperate to buy product and accrue a desirable return. These investors typically compete in primary markets, providing an opportunity for all other investment capital to chase opportunities outside of those markets. Secondary and tertiary markets become a viable option.
2. Fewer new deliveries to compete against
There are fewer new products being delivered in secondary and tertiary markets for a number of reasons. First of all, there’s less job growth, and population growth is quelling demand. Investment capital is less likely to take development risk
3. Potentially higher yield returns
Robyn Friedman of the Wall Street Journal highlighted this strategy in a report some weeks ago. She reported that multifamily owners are receiving higher yield returns and inflated cap rates for Class A properties in secondary and tertiary markets when compared to primary markets. The cap rate spread between these markets tends to range between 150 and 200 basis points, creating higher returns.
We’re witnessing a marketplace with immense liquidity and fierce competition for product. This is a growing trend that will continue through the remainder of the cycle as the sheer flood of capital has to find a home. Secondary and tertiary markets are stable places to invest.
Ironman, barbecue champion and deal enthusiast, Will is also the Atlanta-based leader of the Southeast Multifamily Advisory Group of Colliers International. Will brings several years’ experience in the industry, primarily focusing on multifamily investment services and capital markets.