Why 18-hour Cities Are the Next Big Real Estate Thing

[Joe Assad]

Gateway cities like San Francisco and New York have long been favored by real estate investors, because they are fairly recession proof and tend to be insulated from job loss and declining property value during economic strife. They have continued to garner interest in recent time because Millennials delay purchasing homes and moving to the suburbs. But with supply constraints and demand hitting peak levels in these markets, the yields from these investments are on the decline. So, investors might find that the grass is indeed greener elsewhere.

Secondary cities one of the top real estate trends of the year. These markets include cities like Denver, Nashville and Raleigh-Durham and are characterized by above-average population growth, a flourishing economy and a lower cost of living and lower cost to do business than other large metros.

Many of these areas have benefited from revitalization of downtown areas where restaurants, bars and mixed-use development have moved in. Nicknamed 18-hour cities, these burgeoning markets offer the amenities of major cities, but they don't operate on a 24/7 schedule like their larger counterparts. For those looking for the urban lifestyle at a reduced price, these cities have become a good layover point between gateway cities and the suburbs.

Secondary cities have also become attractive, because they have experienced a lot of job creation. Companies are increasingly considering these markets, because it is cheaper to establish a presence and run a business than in the largest cities. As this trend continues, it will feed the overall growth of these markets, making them an even more attractive investment opportunity.

Investing in 18-hour cities is not without risk though. In the past, secondary markets have not been as resilient in economic downturns as gateway cities. It is not understood how these booming markets of today would perform in the event of another recession, so they could be vulnerable to massive job loss and/or plunging property values if another economic decline were to occur.

Analysts have reason to be optimistic about secondary cities going forward. During the current period of expansion, there has been self-restraint in adding new supply to these real estate markets, which means the population explosion in 18-hour cities will be able to absorb the supply on the market. Also, unlike its gateway counterparts, secondary cities still have room for expansion, so they can maintain equilibrium between supply and demand. As a result, cap-rate compression (i.e. the ratio of net operating income to property asset value and often a predictor of how profitable a property will be) has been able to stay at moderate levels, which translates to higher yields for investors.

While the the big six cities continue to be of interest to investors who enjoy the security of those markets, increasingly investors are more willing to take calculated risks with emerging cities. As a result, only two of the top 10 cities (San Francisco and Los Angeles) were not secondary cities. As you consider investing in these alternative markets, here are some to consider.

Dallas/Fort Worth - With strong job growth and good cost of living and cost of doing business, Dallas/Fort Worth ranks as the top area for real estate investing. There is some concern about overbuilding, but the consensus is that the current market can support it.

Austin - A longstanding favorite, Austin continues to prosper from diverse job creation in STEM and technology, advertising, media and service jobs. The one downside cited is that the infrastructure has not been able to keep pace with the population explosion.

Charlotte - Continued job growth coupled with the development of urban centers have allowed Charlotte to continue to thrive. Some point to the city's singular focus on the financial services industry as a potential detractor, as it may not allow for the same growth as technology-centric markets.

Seattle - Popular with both domestic and global investors, Seattle has benefited from growth in diverse industries. While investors note that the city has been able to maintain growth for some time, there are limited development opportunities and some worry it might not be able to sustain its current pace of growth.

Atlanta - The lower cost of doing business in Atlanta has attracted corporate relocations has contributed to strong market growth in the city. Its biggest shortcoming is the "perceived accomplishments of public and private investment."

While 18-hour cities have traditionally been a riskier investment, they are beginning to write a new story. As they continue to diversify their economies to include the tech and healthcare industries as well as develop mixed-use communities, they are becoming an increasingly more stable investment. And for those looking for bigger yields, these cities could prove to be very rewarding.