Changing Capital Flows, Push into Secondary/Tertiary Markets

“One of the themes we’ve been seeing is investment into areas with strong economic and employment growth.” So says Jason Dewitt, SVP of JLL Capital Market, Net Lease. GlobeSt.com recently caught up with Dewitt to talk about net lease activity, a shifted focus to secondary markets and more.

GlobeSt.com: Last year we saw a leveling off of net lease activity in primary markets. What were the factors driving this?

Jason Dewitt: Net lease transactions activity in 2017 in large part mirrored the broader market, with 65% of net lease transactions taking place in secondary markets. So far in 2018, the trend has held steady as secondary markets continuing to see robust activity. Primary markets continue to offer subdued yield to investors and given this, more investors are shifting focus to markets that offer more a more attractive yield profile and where they are more comfortable with the underwriting.

Secondly, we’re seeing more high-dollar deals transact in secondary and tertiary markets. In fact, approximately 50% of all net lease transactions over $100 million in value in 2017 took place in secondary markets. In line with expectations, the share of big ticket sales in secondary markets further increased in the first quarter of 2018 to reach about 53%. In the past, it might have been more difficult to transact a $100 million+ deal in a secondary market, but investors are savvier and more comfortable with these markets as the cycle has progressed.

GlobeSt.com: So investors are more comfortable chasing yields in markets that aren’t typically powerhouses. Which markets are they looking at? Do you expect this to continue into 2018?

Dewitt: One of the themes we’ve been seeing is investment into areas with strong economic and employment growth. One region to note is the Sun Belt, in particular markets such as Austin, Nashville, South-Silicon Valley, Phoenix, Raleigh-Durham, Orange County, and Dallas-Ft. Worth. Sun Belt cities accounted for nearly 46% of all net lease transactions in secondary markets in Q1 2018. This figure is at a multi-year high and has increased by almost 8 percentage points since 2015.

Of all the secondary Sun Belt markets, Austin led the way with volumes totaling just over $300 million in the first quarter. The single largest net lease transaction amongst secondary markets and fifth largest in the country took place in Austin in Q1 2018 and totaled $200 million.

2018 will see more of the same of measured underwriting for large transactions in primary markets where yields have compressed which has pushed investors to start looking across other markets.

GlobeSt.com: Is this shift to increased secondary market invest any product types in particular?

Dewitt: The main driver for increased activity in secondary markets in 2017 was net lease office assets. The sector’s share of investment in secondary and tertiary markets increased by about 12 percentage points to 63% of total net lease office investment in 2017. For investors moving into secondary markets, it is often office assets that they are most comfortable with…

In the first quarter of 2018 this trend marked some evolution. The share of net lease retail volumes in secondary markets has been seeing a steady increase with the Q1 2018 figure rising by almost 5 percentage points from 2017. Given these assets are more abundant and less expensive than their primary market counterparts, we can expect this figure to rise further in 2018. Also underpinning investors’ pursuit of assets in these locations are strong demographic and economic trends in these markets.