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Markets generally break down into three categories 1) Primary, 2) Secondary, and 3) Tertiary. There are pros and cons all three and investors should align their interests with the proper markets. Population is usually the driving factor in determining which category a market falls into, but this is not the only factor to consider.
Primary Markets (MSA more than 5 million)
Primary markets are those with large dense population centers and well-established industries dating back decades or more. Examples of primary markets include New York, Boston, LA, Atlanta, Chicago, Miami, and Seattle. These markets may have seen an exodus of existing residents during the pandemic, but many also experienced an influx seemingly at the same time. Their proximity to headquarters of the leading industries in the nation make them resilient markets over extended periods, but the same industry will have a negative impact on the market during economic downturns. These markets are best suited for long-term growth if you can withstand the sporadic downturns.
Pros
Primary markets have a proven track record and a plethora of easily accessible data to research and analyze growth trends. They usually have steady rent growth and a wide variety of renters often containing high volumes of young adults and well-educated tenant bases. These markets are usually best suited for high-net-worth investors looking for low-risk investments that also provide attractive tax benefits.
Cons
Primary markets have more competition. If you’re looking to find and source a deal in a primary market, you will likely compete against larger institutional investors. These markets also have lower cap rates which means less upside for return.
Secondary Markets (MSA between 1 and 5 million)
A few examples of secondary markets include: Austin, Nashville, Jacksonville, Indianapolis, Baltimore, and Tampa.
These are the larger cities that are just slightly smaller than primary markets and usually the beneficiary of recent economic activity. These markets can be slightly more affordable than primary markets, but that’s not always the case. Lots of secondary markets have also experienced a population boom within the past couple of decades. This sudden population influx can lead to increased development or even over development in some instances which can result in higher vacancy rates.
Tertiary Markets (MSA 1 million or less)
Tertiary markets are relatively affordable with cap rates consistently north of 7%. A few examples include: Tucson, Reno, Wichita, Charleston, and Savannah. We typically prefer tertiary markets. There is less competition meaning we can purchase at a discount and create better upside for return. However, there are more risks that should be mitigated to the fullest extent possible.
- Liquidity – it becomes more difficult to sell when there are fewer potential buyers
- Renovation Plan – tertiary markets tend to have fewer resources making it more difficult to complete a renovation plan as fast as possible.
- Very industry-driven – must verify market is not reliant on a single industry
- Tenant Base – tend to have an older population who may be less inclined to rent
One careful consideration when purchasing in Tertiary Markets is its propensity for long-term growth. The best indicator of long-term growth by far is job growth and industry diversification. It’s important to avoid areas that strongly rely on a single industry because if the industry leaves, then so do the tenants. A healthy market should have various tech, manufacturing, education, government, and medical field jobs. Ideally, we even like to see foreign manufacturers taking an interest to moving in the area.
Although we tend to group markets in three categories, sharing a category does not mean markets are the same or even similar. Some markets have negative population growth others may have a heightened crime rate. Also, statistics covering the city or the MSA, may not be indicative of the specific neighborhood/submarket you are looking. This why we focus on submarket analysis to get a solid grasp of the factors that actually influence our tenant base.
