ULI-PwC Survey More Investors Shifting Focus to 18 Hour Cities

Investors Increasingly Bullish on Austin, Charlotte, Nashville; Declining Sentiment for Houston, DC, Chicago in Annual Investment Outlook Survey for U.S. Metros

By Randyl Drummer

U.S. and global property investors surveyed by PwC and the Urban Land Institute (ULI) are increasingly bullish on secondary markets such as Nashville, Charlotte and Austin, which edged out around-the-clock gateway cities such as San Francisco, Los Angeles and New York City to capture eight of the top 10 rankings for investor outlook in the latest PwC/ULI-authored Emerging Trends In Real Estate 2016 report.

The findings mirror growing confidence in the investment potential of these so-called "18-hour cities," which also include Dallas/Fort Worth, Charlotte, Seattle, Atlanta, Denver and Portland. "We are finding a tangible desire to place a rising share of investment capital in markets outside the 24-hour gateway cities," noted Mitch Roschelle, partner with U.S. real estate advisory practice leader with PwC.

One survey respondent, an investor at a large international institution, expressed surprise at the number of secondary markets that have become "suddenly hip" among the institutional crowd, including Denver, San Diego and San Antonio.

Investors have been moving gradually to increase their risk tolerance in these markets as the recovery in U.S. economy and real estate markets continues to deepen, bolstering absorption and occupancy in almost all markets. It doesn't hurt that these second-tier markets have experienced more moderate compression of cap rates and improving yields relative to the gateway markets where investors have paid a premium for trophy properties and bid up the pricing of even less-quality assets, according to the report.

ULI and PwC presented their joint-report at a meeting held this year in San Francisco, where the super-heated real estate market has raised concerns about affordability and the potential impact of a slowdown in the technology sector on commercial property.

A separate ULI report released this week suggests that the San Francisco Bay Area is at risk of losing millennials to less expensive housing markets. About three-quarters of millennials surveyed for the report said they were considering leaving the region within the next five years.

One-third of the respondents from the South Bay area in the Silicon Valley, which has the largest number of millennials, say they are not satisfied with their housing options.

Among the report's other findings:

  • With office-using jobs accounting for 39% of the employment gain, office absorption, occupancy and rent growth has been brisk in both CBD and suburban office markets, with more of the same expected in the coming year.
  • With pricing already near record levels in many primary markets, investors will channel more capital into the rising secondary locations, as well as restaurant/retail sale leaseback opportunities, and alternative assets such as cell tower, outdoor advertising and even potentially energy and infrastructure REITs. Investors will also take a closer look at redevelopment and other value-add opportunities, including conversion of outmoded industrial facilities to "last-mile" distribution facilities serving e-commerce, or trendy offices. Institutional investor interest will rise in niche property types that are benefiting from changing demographics and technology trends, such as medical office, data centers and senior housing.
  • Trends forcing middle-market CRE brokerages to grow through consolidation or become niche specialists or regional/boutique firms will increasingly impact developers, fund managers and equity providers. Smaller developers are increasingly turning to community bank lenders for development capital, as large lenders are now more cautious due to federal regulatory scrutiny.

One Chicago developer that had long worked as an independent on high-end urban construction projects reported that he recently moved under the umbrella of a large firm with cross-border businesses, noting that "the builders and owners of property now are entirely different" and small builders aren’t equipped to withstand market down cycles. The cost of pursuing development projects, which may take 18 months or more to break ground, can cost a builder millions of dollars, he lamented.

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