Investors Flock To Secondary Cities But For How Long

Article originally posted on Globe St. on April 7, 2021

Investors are flocking to secondary and tertiary markets, playing on a trend that’s been picking up steam for the last several decades and lurched into high gear as the pandemic drove activity away from dense urban cores.

A new investor outlook from Marcus & Millichap shows that while transaction activity dropped dramatically in the second quarter of 2020, it gradually recovered and was almost back to normal on a macro level by Q4. But while total CRE deal count was only down 5 to 10% years-over-year, those numbers don’t tell the whole story, according to John Chang, senior vice president of research services at M&M.

Property type and geographic factors accounted for vast disparities in sales volume, Chang said, with full service hotel sales, for example, logging a 61% decrease compared to 2019. Meanwhile, industrial warehouse facilities priced at between $2.5 and $10 million were up by more than 25% in Q4, and generally speaking sales of properties under $20 million recovered faster than those over that threshold.

While multifamily and warehouse properties gained traction more quickly, Chang says, “reigniting sales activity for hotels, senior housing, urban office and shopping centers has been slow.”

Around 58% of apartment sales were in secondary and tertiary markets last year, in stark contrast to two decades ago when almost 60% of sales were in primary markets. Retail’s numbers tell a similar story: “we’ve gone from 58% of retail transactions being in primary markets to almost 69% of transactions now being in secondary and tertiary metros,” Chang says. “A big part of this is likely driven by single tenant net lease transactions.”

And office was similarly dramatic: activity in secondary and tertiary markets rose from 39% to 65%, while industrial climbed from 36% to nearly 63%.

Counties in the Boise, Columbus, Des Moines, Grand Rapids, Greenville, Indianapolis, Kansas City, Knoxville, Ogden, Omaha, and Spokane metro areas have stood out as hot secondary markets by some accounts.  And according to recent data from the National Association Realtors, secondary and tertiary cities that should outperform the national average include Austin-Round Rock, Texas; Cape Coral-Fort Myers, Florida; Charleston-North Charleston, South Carolina; Las Vegas- Henderson-Paradise, Nevada; Nashville-Davidson-Murfreesboro-Franklin, Tennessee; Phoenix-Mesa-Scottsdale, Arizona; Raleigh, North Carolina; Salt Lake City, Utah; Seattle-Tacoma-Bellevue, Washington; and Tucson, Arizona.

“This trend has been advancing for the past 20 years but it has accelerated since the onset of the pandemic,” Chang says. “The recent acceleration of the trend may be tied to the pandemic, which has boosted migration from primary metros to smaller cities. Investors are simply following the migration.”

The big question, according to Chang, is whether people will move back to major metros after the pandemic—and whether investor capital will follow them. “This is one of those areas where investors have the opportunity to get ahead of the curve,” Chang says. Why? “If investors believe people will return to the urban core, there could be opportunities to invest ahead of that movement,” he says. “If they believe current out-migration trends will hold, it’s an opportunity to focus capital in those cities that are growing the fastest.”

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