Picking the Right Real Estate Market to Invest in: Comparing Tier I, II, and III Markets

One of the immutable laws of business is to make sure your product or service stands out to your customer. If they can’t find you, they can’t buy your product or service. The more crowded the category, the harder you need to work to distinguish your business from others. Making your business stand out often means spending a lot on marketing efforts to win the desired audience’s attention.

This creates competition, potentially turning it into an “arms race” between you and your competitors to attract the segment you’re targeting. What if you could use that same marketing spend in a less competitive market? Conceivably, it’d make your product or brand easier to stand out.

There’s a similar dynamic in real estate investing. It takes a lot of resources to be competitive in metro areas like New York City, San Francisco, Miami, and Chicago. Even then, these cities experience so much investment volume that growth potential could be limited relative to a smaller, less competitive market.

Finding the right market to invest in isn’t easy. Let’s learn more.

Real Estate Investing – Comparing Tier I, II, and III Markets

Industry consulting firm CBRE segments the country’s metro areas into three tiers based on rents, relative risk, investment volume, and geographical boundaries. Let’s discuss the characteristics and investment considerations of each tier.

CBRE’s Metro Tiers^[1]

Tier I Real Estate Markets

Tier II Real Estate Markets

Tier III Real Estate Markets

Investing in a Tier I Real Estate Market

Metro areas in this top tier are the most competitive markets in the country. An established market of deep-pocketed buyers and sellers means prices in these areas are the highest in the country. Land available for development is often non-existent, pushing developers down the more costly redevelopment or renovation path.

Cities like Boston or New York City predate the founding of the United States. The age of many buildings means that developers often must satisfy historical preservation requirements imposed by local and state governments before renovating a building.

All that said, the Tier I market attracts consistent investment volume year-over-year because of its strong historical track record. Often, properties in these metro areas are already cash flowing; if they aren’t, investors can be certain that any development will cash flow in short order.

As a result, deep-pocketed and risk-averse institutional investors will be part of the competition for Tier I opportunities, which can make it hard for less-capitalized investors to participate meaningfully. Opportunities exist in Tier I markets, but they often come with a big price tag.

Investing in a Tier II Real Estate Market

More elastic pricing dynamics characterize investment opportunities in Tier II. Meaning, where you can pretty much know what something will buy or sell for in Tier I, Tier II investments broaden the range of outcomes. Developers love Tier II markets because there’s a greater chance that market participants have mispriced a property or piece of land. When the market misprices an asset, that means the developer can potentially scoop up a property for under-market value or dispose of property for greater than its intrinsic value.

Developers also love Tier II markets because the investment volume is growing but hasn’t reached its highest threshold. Austin and Phoenix have been grown into increasingly popular markets for developers as more firms relocate to sunny and business-friendly states.

Tier II metro areas feature resilient fundamentals (like major employers, an educated workforce, and modern infrastructure) that enable them to weather the most challenging economic circumstances. Still, they’ve historically exhibited a higher sensitivity to economic downturns, making investments in these markets a bit riskier than Tier I, in general.

Tier II investments blend the predictability of Tier I markets with upside potential for growth that, in most cases, justifies the steadily increasing investment volumes these markets have attracted over the last few years.

Investing in a Tier III Real Estate Market

Investors and developers have a range of investment possibilities to consider in Tier III metro areas. You can find cash-flowing properties that may need investment to flip for a profit or raw land that can become a massively profitable master-planned community. That variability can mean significant upside for investors and developers alike.

Tier III markets mimic Tier II markets in terms of their resiliency through challenging economic conditions. However, their characteristics tend to be more muted. For instance, where a Tier II market like Austin or Atlanta may have multiple major employers, a Tier III market may rely on a handful of key employers to provide upward mobility to its citizens.

Developers love Tier III markets as well. Sure, it can be a bit riskier, but prices tend to be less competitive, meaning there’s a good chance to harness growth opportunities at a reasonable cost.

Summary of Tier I, II and III Real Estate Markets

About Caliber

As the Wealth Development Company, we are a leading U.S. sponsor with approximately $500 million in assets under development and management. These investments are comprised of alternative investments, which include private funds and syndications, externally managed real estate investment trusts (REITs) as well as public funds. We conduct substantially all business through our Sponsor, CaliberCos Inc., a vertically integrated platform that is strengthened by more than 70 professionals with decades of institutional experience in commercial real estate, capital markets, alternative investments, and mergers and acquisitions.

We allocate our alternative investment strategies and align them with investors’ investment objectives, risk profiles and liquidity preferences to offer an optimal balance of risk-adjusted returns and attractive investment performance. It is because of this thoughtful, intentional approach, and our unwavering pursuit of performance, that we have been deemed The Wealth Development Company.

We strive to build wealth for investors by offering a diverse host of investment solutions that fit our investors’ needs. With a primary focus on key middle-market growth areas, such as Arizona, Colorado, Nevada, Texas, Utah and Alaska, we evaluate other U.S. markets that possess the same attractive demographics and macroeconomic trends as our targeted markets, such as highly skilled labor, emerging population and job growth. In addition, we utilize our institutional full-service operating platform to generate operating efficiencies while enhancing the value of our investments through dedicated asset management strategies.

We create value through a combination of internal and external growth channels. Bringing together the benefits of real estate, deep asset-class, and capital markets expertise across public and private investments. We seed, develop, and manage a broad range of liquid and illiquid alternative strategies for a diverse group of investors who comprise approximately a $4 trillion alternative investment market, which includes high net worth, accredited and qualified investors, as well as family offices and smaller institutions. This strategy allows us to opportunistically compete in an evolving middle-market arena for alternative investments that range between $5 million and $50 million.

Click here to see Caliber’s current property portfolio.

If you would like to speak to someone about diversifying your retirement accounts, contact us at [email protected] or call (480) 295-7600 to schedule a call with a member of our Wealth Development Team.

Join Chris Loeffler, Caliber CEO, as he shares Caliber’s journey from a small startup to a market leader in commercial real estate asset management and gives key insights on Caliber’s innovative investment approach, including self-directed IRAs and private loans. 

There are various approaches utilized by Caliber, such as converting commercial spaces, investing in distressed real estate, and introducing pickleball facilities. In this podcast, Chris discusses the importance and intricacies of approaching opportunity, building investor trust, securing funding, transitioning to the public domain, and maximizing returns within Opportunity Zones.