Hedging Volatility with Tertiary Markets

Public Market Volatility

Public markets have been increasingly volatile as of late. The Volatility Index (VIX), created by the Chicago Board Options Exchange (CBOE), measures forward-looking market volatility and helps dictate investor sentiment and investment decisions, hit a high of 24.81 on August 5th. This was the highest the VIX has been since January 3rd 2019 when it hit 26.6. December of 2018 was another highly volatile month the VIX had an average close of 24.95, and hit a high of 36.2 on December 26th.   

Throughout the last 3-months the VIX had an average close of 16.15, this is high compared to the last 3-years when it had a 14.40 average close. Some believe this recent volatility bodes ill for the economy, but in the words of VENTURE.co’s Head of Real Estate Greg Brown, “Many ‘soothsayers’ and ‘prognosticators’ are predicting a coming recession. These folks should remember a fundamental premise, humans need places to live.”

Diversifying with Tertiary Markets

Investors looking to diversify their portfolio with non-correlated assets can look to alternative investments, including illiquid tertiary real estate assets. Long-term real estate investments are typically not as affected by short term swings in public markets.

When assessing tertiary markets – smaller real estate markets with a population of less than 2 million people – it can be useful to look for markets with core economic driving forces while also having high barriers to new development. These two key factors can be indicators of sustainable demand. 

  1. Investing in markets that have stable economic driving forces, such as:
    • Military
    • Government
    • Healthcare
    • Education  
  2. Investing in markets with high barriers to entry, such as:
    • Low rates of development
    • Zoning regulations
    • Urban sprawl mitigation
    • Sustainability focus

Economic Driving Forces

The Burlington, VT area has several stable economic driving forces. The area has numerous colleges and universities including UVM, Champlain College, St. Michaels College, CCV, and Vermont Technical College. There are more than 15,000 students and 1,800 faculty and staff in Burlington colleges and universities alone (UVM and Champlain College). The UVM medical center, located in Burlington, is the largest hospital in the area, as well as being the largest employer in the state with 6,500 employees. These numbers are significant as Burlington hosts a total population of 42,900 people. There are two major military bases in the area, one National Guard Army Base and an Air National Guard base. Education, healthcare and military jobs are three of the most stable job sectors that have driven demand for housing in the Burlington area.  

High Barriers to Entry

Historically, the Burlington city and Vermont state governments have emphasized sustainable development, quality of life, and access to public spaces. This has resulted in rigorous zoning and developmental policies geared toward reducing urban sprawl. Height restrictions, off-street parking requirements, and lake view requirements are all barriers to new development. A statewide “Development Pause” known as Act 250 was designed to protect the local environment from over development. The area also has an organized, eco-friendly stakeholder population that demands sustainable development and environmental protection. All of these barriers combine to limit the supply of new single-family and multi-family housing developments.    

Single-Family Market

Overall, development has not kept pace with demand in the Burlington area. According to Hickok and Boardman’s Mid-Year 2019 Market Report, “Low inventory continues to be the story in the national and local housing market. Properties coming on the market have been in short supply for a few years resulting in less sales, while demand remains strong. Steadfast price growth for homes in northwest Vermont is good news for sellers but has challenged some buyers trying to get into the market. Competition for properties under $400,000 may not let up for quite some time.”

The national housing price index (NHPI) is both volatile and heavily affected by macroeconomic forces. The NHPI deviates more to forces such as aggressive lending, oversupply and leads to overdevelopment in primary markets- markets with over 5 million people. Meanwhile, the Chittenden County housing price index (CCHPI), has remained steady even in times of economic recessions. This is due to long run undersupply and underdevelopment which insulated Chittenden County from the seismic effects of the financial crisis. The graph below is a comparison of the NHPI vs. CCHPI from 2004 to 2017. The recession of 2008 is demarked by a drop in the NHPI, the CCHPI experienced only a slight decline by comparison.

Multi-Family Market

High development barriers have resulted in extremely low rental vacancy rates in the Burlington rental market, compared to the national average. The same Hickok and Boardman report states, “Vacancy rates in Chittenden County have gradually decreased to 1.8% over the last 18 months – returning to rates seen in 2015 and 2016.” This decrease is surprising as national averages are over 6.8% during the same time period. “The Allen, Brooks, and Minor June 2019 Report identified an anticipated 661 apartments to open in 2019. Assuming projects are completed on time, this year will be the second highest on record (behind 2016).”

Even with more housing units coming online, vacancy rates for Chittenden County have never risen above 3% since the 20th century. Even during the financial crisis of 2008, rental vacancy rates only rose 0.5% in the county. Burlington’s overall housing stock consists of more than 50% rental units. Low supply and high demand have driven the price of multi-family housing up. In July 2014, the average rent per month in Burlington was $1,196 in July 2019 it was $2,145. Below is a set of recently constructed apartment complexes, from Cushman & Wakefield’s Cambrian Rise Appraisal 2018.

Burlington’s Outlook

Burlington’s economy has further growth potential including growing tech, sustainable energy, and manufacturing sectors. Some examples in these areas include BioTek Instruments, Ben & Jerry’ (Unilever) and Dealer.com. Venture capital firms such as UVM Health Network Ventures, FreshTracks Capital and others have been making capital injections in the area. Moreover, UVM and the UVM Medical Center are both currently expanding their facilities. UVM has built a new central campus including dorms and dining facilities, they are also a few years away from the construction of a new sports complex. UVM Medical Center has expanded with a new wing, including a new maternity ward and emergency room.

Educational institutions are often more insulated from times of economic downturn than other industries. For example in 2008, many of the people who lost their jobs actually went back to school to attain a higher degree. Burlington is consistently rated highly as one of the top college towns in the country. Healthcare jobs also tend to outperform other industries during recessions. According to the Department of Labor Statistics, “the Great Recession had little negative effect on job growth in healthcare compared with its effect on the national economy. For the most part, this was true regardless of occupational setting or geographic location.” Having education and healthcare as the core industries in Burlington is a competitive advantage for the region.

The Rental Market Outlook

Many renters are looking for premium rental space of their own. As young renters move out of their multi-bedroom college apartments they are looking for rentals with high end amenities, access to Burlington’s natural resources, value within their units and are willing to pay roughly $2.55 per square foot. The last cohort of millennials is currently driving the rental market, they are often waiting until their late 20s and early 30s to buy their first home. From 2008-2012, the average vacancy rate in Chittenden County was 1.54%. From 2012-2017, more than 2700 multifamily apartment units came online, a 5% increase in total multifamily stock. Meanwhile the average vacancy rate barely moved, and was 1.84% during that 5 year time frame. This illustrates just how much latent demand there still is for new housing stock.

Continued growth should come with a corresponding increase in the supply of housing, but development barriers have continued to keep supply low. Recently, there has been a slight sea change. There is now some political will to encourage development in an effort to reverse the current housing affordability problems experienced in Chittenden County. Even still, the barriers to entry remain high and difficult to overcome. Occupancy and housing demand has continued to keep up with Burlington’s rate of development.

For more information please watch our video “Why Markets with High Barriers to Entry can be a Hedge Against Market Volatility”. Please contact Brandon Streeter at brandon@venture.co to learn more about VENTURE.co offerings.

This brochure background information related to an offering of Venture.co Brokerage Services, LLC (Member, FINRA). For full information and risk disclosure, please request a copy of the Private Placement Memorandum.  Offering available only to accredited investors. This document includes “forward-looking statements,” as defined under federal securities law.  There can be no assurance that such predictions will prove true.  Offering subject to change or withdrawal without notice.

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