Why You Should Invest in Midwest Multifamily Real Estate

Housing Supply is Restrained Relative to Demand


We focus narrowly on Midwest markets we know well, with an emphasis on Ohio, Indiana and Northern Kentucky. These states are within one day's drive of 60% of the U.S. population, which means this region is increasingly the  beneficiary of supply chain re-engineering  involving re-shoring and  near-shoring.  Re-shoring and near-shoring  is  leading to major new manufacturing investments in secondary Midwest markets, solid economic growth, steady job gains, and sustained demand for new housing.  However, unlike many coastal and sunbelt markets where  strong job growth has led to significant increases in  the supply of new housing, the supply of new housing in the Midwest is not outpacing demand.   The result is   that rent growth in Midwestern markets  like Cincinnati, Dayton & Indianapolis are  currently leading the nation, while rent growth in many sunbelt and coastal markets has turned negative as these markets struggle to absorb record amounts of new inventory.

The balanced supply/demand picture in the Midwest  means that  investments in the Midwest typically offer more reliable cash flow & income. However, given the renewed growth  in domestic manufacturing due to re-shoring and near-shoring, some Midwest markets can offer growth opportunities that are competive with the coastal and sunbelt markets.  On a risk-adjusted basis, this can make the Midwest more attractive than investments in  coastal and sunbelt markets.

Midwest Employment Growth is Strengthening

In 2006, we made our first Midwest investment in a market where the largest local employer was a vertically integrated steel mill. The mill had three blast furnaces, but only  one furnace  was in operation, and management had locked out thousands of employees in a labor dispute.   The mill was limping along, and its future was unclear.

Today, all three blast furnaces are running at full capacity, and the mill is the largest flat rolled steel producer in North America.  This story is but one small component of what we see  happening all over the Midwest: international supply chains are being redrawn  locally,  and key  manufacturing technologies  like semiconductor manufacturing are being brought back to the Midwest in response to concerns over national security, transportation costs, and efforts to reduce time to market.

In addition to rebuilding supply chains, the old "Rust Belt" moniker has given way to the new terms like the  "Battery Belt" and  the "Silicon Heartland."  The new jobs associated with these changes are creating  fresh housing demand  in  Midwestern cities like Dayton, where a California-based company  just announced plans to  invest $500 million in a new factory that will build flying cars and employ thousands of people.   Job  growth in cities like Cincinnati and Indianapolis  are currently surpassing the national average for the first time in years, and each of these two cities currently lead the nation in rent growth. The Midwest may not see Silicon Valley-level income growth anytime soon, but Midwestern job growth is increasing and its reputation for  decline is clearly stale and outdated.

Midwest Operating Costs, Such as Insurance & Property Taxes, Are Much Less Volatile than in Other Markets

Natural disasters are rare in the Midwest, so insurance costs are lower and much less volatile than in coastal & subelt states. Recently, some multifamily owners in Florida have been completely unable to obtain insurance due to hurricane risk.  While the Midwest does have its fair share of bad weather, insurance can still be obtained at a much more reasonable cost relative to states like Florida and Texas. This makes asset valuations less vulnerable to  expenses that are beyond management control

In addition,  in states like Texas and Florida where there is no income tax, property taxes are one of the primary sources of revenue.  This means property tax expense in these states also suffers from volatility that is completely beyond management control. This not the case in most Midwestern states. In Indiana, for example, property tax rates are fixed by state law. As a result, property taxes are much less volatile in the Midwest than they are in some sunbelt states, so they are much easier to predict. This further reduces the risk of exposure to uncontrollable costs .

Many Midwest Markets Are Overlooked by Institutional Capital

Institional investors  are often more agressive because they have access to   more abundant and less expensive forms of capital. This means it is more efficient for these investors to deploy larger sums of money in much larger  assets located in primary "Gateway" markets like Los Angeles, Dallas, Miami, Atlanta & Washington, D.C., rather than  in smaller assets located in "secondary"  and "tertiary" markets  like Cincinnati, Indianapolis or Columbus.

Because Piping Rock's focus is on smaller, middle market assets (100-200 units) in secondary and tertiary Midwestern markets, we can often obtain a 100 to 200 basis point yield premium vs. investing in larger assets  in primary markets -- without sacrificing opportunities for  meangingful capital appreciation.

The Midwest Offers Stability, Cash Flow & Opportunities for Meaningful Capital Appreciation

We believe these market conditions create compelling opportunities to purchase  existing assets at prices below replacement cost and reimagine them  with new amenities, upgraded interiors and  exteriors, and new  management technologies.   New amenities  and upgraded interiors and exteriors   typically drive increases Net Operating Income ("NOI"), which in turn results in meaningful opportunities for capital appreciation  and attractive risk adjusted returns relative to other markets.