Recently, we’ve been exploring a series of Heartland metros that could be appealing to investors interested in workforce housing. So far, Cincinnati, Rochester, Morgantown, and Detroit shared some common characteristics:
- Economic resilience
- Strong multifamily sectors
- Upside potential
- Built-in downside protection that affords investors a lower risk profile than more traditional coastal markets
This week, we’re following the Ohio River 400 miles southwest, to Derby City, River City, Falls City, The 'Ville, the home of Churchill Downs, and America's most famous baseball bat. You guessed it: it’s Louisville.
The Gateway to the South
Louisville has always been a logistics giant. Founded in 1778 by George Rogers Clark and named after French King Louis XVI, the city began life as a portage site used to circumvent the Falls of Ohio — the only major shipping obstruction between the upper Ohio River and the Gulf. In 1850, Louisville continued to forge a heritage of logistical clout, serving as the founding city of the Louisville and Nashville Railroad — a freight and passenger titan serving 13 states at its peak.
An influx of manufacturers, particularly in the auto industry, positioned Louisville to become one of the nation’s largest producers of military aircraft during World War II. After the war, local manufacturing declined and suburbanization took hold in the 60s and 70s, prompting Louisville’s economy to reorganize. Since the 90s, Louisville has witnessed dramatic multi-sector economic growth, residential and tourist expansion, and become a cultural icon known as the home of the Kentucky Derby, Muhammad Ali, and the Louisville Slugger — but also to a host of restaurants, galleries, museums, concert halls, and stadiums.
Today, Louisville’s economy is robust and diversified. The city’s shipping and logistics history still plays a prominent role. The UPS Worldport logistics center is the second-busiest air hub in the United States, and the Port of Louisville is the country’s seventh-largest inland port. The metro also plays host to two Ford Motors plants, the headquarters of GE Appliances, Kentucky Fried Chicken, three Fortune 500 companies (Humana, Kindred Healthcare, and Yum! Brands), and numerous distilleries which produce more than one-third of the world’s supply of bourbon.
The city’s world-regarded export sector and logistics prowess are supported by manufacturing, professional services, healthcare, and education sectors.
The combination of expansion and affordability is a proven formula for profitable real estate investment, and Louisville embodies this dynamic.
Situated within a day’s drive of 60% of continental US cities and two-thirds of the US population, it’s no surprise that Louisville’s geography has accelerated its rise in an era of e-commerce and 2-day shipping. But, the economy is balanced and diverse, mitigating recessionary risk and increasing the overall pace of growth.
The combination of a diversified economic base and significant presence in sectors optimally positioned to benefit from globalization has unleashed impressive GDP growth in the metro area — more than 45% over the last decade.
The city is also well-positioned to weather recession. Like we’ve argued time and again, a balanced economy anchored by sectors that benefit from resilient demand - like healthcare and education - keeps the workforce working even when times are hard. According to a 2017 HUD report, Louisville payrolls contracted between 2008 and 2010 by an average of 10,800 jobs, or 1.8 percent, annually — with the manufacturing sector suffering the greatest losses. But, expansion in the professional services, trade, and leisure and hospitality sectors offset the decline of manufacturing. This diverse spectrum of industries pulled Louisville out of the recession and brought the economy roaring back to life.
While new investment from firms like UPS, eBay, and Ford Motor, as well as distilleries like Brown-Forman, have fortified the economy, the MVP in the 21st century has been — no surprises here — Meds and Eds. Since the end of the 2008 recession, the lion's share of new jobs in the metro area have been added in the healthcare (especially elder care innovation) and education sectors — the largest employers in which are the University of Louisville, Jefferson County, Norton Healthcare, and Humana. As the same HUD report put it, "the second largest sector in the HMA, at 13.8 percent of payroll jobs, education and health services has been the fastest-growing sector in the HMA since 2000 and the only sector to have added jobs every year since 2001."
Louisville’s response to the economic fallout of the COVID-19 pandemic has been similarly impressive, with employment numbers taking the hit and getting right back up about as well as you’d expect from the city that gave the world Muhammad Ali.
The city’s transportation and trade sector actually expanded by 2% during the apex of the pandemic, and the rest of the economy will likely follow suit. Capital investment in the market has also continued to soar, with CBRE reporting in Q1 2021 that Louisville has attracted more than $14 billion in new investment since 2011. Growth hasn’t been limited to established anchor firms, either: an increasing number of local start-ups could attract more VC money into the city in the coming decade.
Affordable Rental Market
Louisville’s economic growth has been rapid, especially since the end of the 2008 recession, but living costs — and especially rental unit costs — have yet to catch up to the curve.
While Louisville is still a large city, and consequently not as affordable as the statewide median, it’s still a powerhouse of affordability in comparison to other similarly-sized US metros. A few stats worth considering:
- In 2019, according to the Census Bureau’s American Community Survey, Louisville’s rent as a fraction of income was 17.26%, compared to 17.74% statewide and 20.03% nationwide.
- In the same survey, rental vacancy was 7.84%.
- 32.79% of the city’s households opt to rent, compared to 32.99% statewide and 35.89% nationwide.
- In 2019, Louisville’s price-to-rent ratio was 16.51.
- Total living cost in the city is 8% lower than the national average.
Louisville’s relatively low rents and living costs synergize with employment opportunities to attract workers to the city:
- Kentucky has the 13th-highest state-level population growth, Louisville is the largest city in the state, and the county’s millennial population has increased by more than 9% since 2008.
- Louisville attracts net in-migration from Cincinnati, Miami, Dallas, Atlanta, Lexington-Fayette, and Nashville.
Another force operating in favor of multifamily investors is a comparatively expensive single-family housing market that incentivizes households to rent. In part due to the pandemic:
- Louisville’s average home sale price increased by more than 20% from 2018-2021.
- According to the Greater Louisville Realtors’ Association, in January and February of 2020, average time on the market was 72 days. In the same months this year, that figure had plummeted to just 37 days.
- The volume of homes sold in Louisville has roughly doubled since 2011.
- In summary — it’s a very hot single-family market.
Where does this leave real estate investors? The rental market in Louisville is more affordable and accessible than the single-family market, population growth and economic opportunity will continue to create demand, and the multifamily market could be undervalued.
According to the Census Bureau’s ACS, Louisville’s 2019 median household income was $61,172, 7% lower than the national median of $65,712. However, median rent in 2019 hovered nearly 20% below the national median, suggesting that Louisville’s affordability is not only absolute but comparative. Rents have yet to rise proportional to economic growth, and real estate investors could have an opportunity to capture economic growth through rent increases while still leaving Louisville renters an affordability margin that encourages them to stick around and raise families.
The multifamily space is also heating up
While the single-family market has served as a heat sink during the pandemic as families seek more space, suburban lifestyles, and home offices that don’t have to serve double-duty as kitchen tables, the multifamily market is also fairly hot.
A 2021 report from CBRE argues that multifamily demand in Louisville is currently at an all-time high, owing to demand in the CBD and subsiding suburbanization trends. Combined with an influx of highly-educated professionals, those forces have converged to put downward pressure on vacancy rates and upward pressure on rents.
For developers, new construction projects aimed at satisfying increased tenant demand — especially in trendy locations that support the higher end of the rental spectrum — could be profitable opportunities. However, more conservative investors may find that Louisville is increasingly a seller’s market; frothy investor demand could place downward pressure on cap rates. On the other hand, investors who successfully acquire buildings should be able to capitalize on a value-add strategy by adjusting rents to more closely match income-adjusted national averages.
The rental market attracts a transient tenant base
Especially towards the lower middle of the cost spectrum — where you’ll find Birgo's beloved Class B workforce housing — Louisville’s tenant base could be somewhat less stable than those of comparable metros.
- 73% of the University of Louisville's student population live off-campus. Affordable apartments may see higher turnover than in other markets (according to 2017 HUD housing market analysis).
- Millennials and retirees are two of the demographics most likely to rent. Although Louisville’s millennial population increased in the past decade, Louisville has not attracted as many young professionals as Austin or Nashville — which could place a cap on upside compared to those alternatives. While Louisville enjoyed a brief period of higher millennial migration around 2018, that wave may have lost momentum, and some pundits have wondered whether millennials leaving Louisville will eventually exceed millennials arriving.
- Fortunately for the city, affordability and a strong healthcare sector noted for innovation in care for the aging keeps retirees in town. The 65-74 age bracket has the highest average net worth of America’s demographics, so a metro that can attract and retain retirees preserves capital in-flows. That the elderly are increasingly making the own-to-rent transition to maximize mobility and quality-of-life while earning better returns on their capital than home appreciation could also stabilize Louisville’s renter faction.
Is downside protection built-in?
Any city that stays on the map for more than two centuries will undergo a measure of economic reinvention, but Louisville’s was neither as dramatic nor as rapid as those of some other metros we’ve written about. While manufacturing and suburbanization have historically taken their toll on most US cities, Louisville never endured a period of decline the way Detroit did. Rather, its heritage of logistics, shipping, manufacturing, and culture has undergone evolution, not revolution — allowing the regional economy to diversify gradually over the past few decades.
Today, Louisville’s strongest sectors are anchored by durable demand that is largely built-in.
- Louisville’s logistical preeminence is a function of its geography: conveniently located at a continental center point, it’s simply cheaper for UPS and other major shipping and e-commerce firms to operate in Louisville than it is elsewhere.
- Similarly, the Meds and Eds sectors drive resilient demand — education is increasingly necessary in a high-tech information economy, and healthcare is a fundamental human need.
The best proxy for measuring Louisville’s downside protection right now is the pandemic, and Louisville’s employment recovery has outpaced the national average, while the trade and transportation sector actually expanded over the course of the past year. A diverse economy undergirded by sectors that benefit from consistent demand and augmented by sectors that can benefit from counter-cyclical upside looks like a relatively sure bet for the immediate future — leading us to believe that downside protection is, in fact, built-in for Louisville.
So far, this series has analyzed metros with some clear common features, like affordability and economic resilience. Cincinnati and Rochester are modern, diverse economies whose reinventions are largely in the rear-view. Morgantown, WV is a college town anchored by a Meds and Eds economy that prioritizes renters and includes downside protection. Detroit is a more aggressive bet still in the midst of reinvention.
Louisville’s story is somewhat different. The city’s history as a shipping hub has largely been a function of geographic happenstance. The city faced industrial reorganization and suburbanization, but those forces were less decisive in Louisville than elsewhere, because the regional economy was less reliant on industrial or manufacturing bubbles to begin with. Instead, Louisville demonstrates the power of stable growth in a diversified economy that includes room for counter-cyclical upside.
For real estate investors, a few traits stand out:
- 45% GDP growth over the last decade
- Rents that are both absolutely and comparatively affordable, exhausting a smaller proportion of tenant income than most of the rest of the country
- An economy that bounced back quickly from the COVID-19 pandemic
- A sizable shipping sector that will only continue to grow as globalization and e-commerce accelerate