By John Huguenard, SIOR, CCIM

Published in Heartland Real Estate Business – City Highlight, March 2007

Investors continue to discover that Indianapolis, much like many other second-tier cities in America’s heartland, offers opportunities.

This trend remained intact last year as investors made significant acquisitions in all core property types. The volume of transactions in 2006 remained consistent with those in 2005, as institutional, fund, REIT and private investors found Indianapolis a stable market supported by improving fundamentals and favorable economic conditions that provide steady growth in value.

Two other factors continue to trigger demand. Product quality and tenant integrity often exceed those in other markets. Plus, investors often are rewarded with better returns than those found in first-tier cities and in other midwestern cities of similar size.

These conditions support continued investment in the coming months, as activity remains brisk in industrial, office, multifamily and retail.

Several industrial buildings changed hands last year, with 27 transactions totaling more than 9.3 million square feet. In all, investors purchased 46 industrial buildings, with Blue Real Estate Company purchasing a portfolio of 17 buildings in Park Fletcher from Duke Realty Corporation and the David Mandel Trust buying a four-building portfolio. Other active investors included Inland Real Estate Group’s purchase of the nearly 1.1 million square-foot industrial building on South Mt. Zion Road, two large buildings acquired by Dividend Capital Trust, two buildings bought by Transpacific Development Company, four buildings of various sizes secured by JB Management and two smaller acquisitions by Welsh Investments.

While 2006 saw six more transactions than in 2005, the total square footage sold in the previous year easily eclipsed last year’s total by nearly 2 million square feet — 11.80 million square feet in 2005 compared to 9.35 million square feet sold in 2006.

Quality industrial product with solid leases continues to garner cap rates in the high 6 to low 7 range, while the price per square foot has risen to the $45 to $50 range. Well-leased, multitenant big boxes are bringing cap rates in the mid-7s. Flex space offers cap rates between the mid-8s and mid-9s, similar to cap rates for value-added acquisitions.

Moving forward, we expect these cap rates to remain the same for the first 6 months of 2007, but anticipate that rates will begin to drop later in the year as competition for properties heats up.

Institutional, fund and private investors purchased a record number of office buildings last year, acquiring 30 office buildings for $403 million. This built on record dollar volume in 2005, when three mammoth deals among that year’s 15 sales accounted for a good percentage of the nearly $775 million in office investments.

Last year, the three largest deals took place in the central business district (CBD) and included the trading of the 557,000-square-foot Ben Lytle Operations Center, the 436,000-square-foot Safeco Building and the 396,300-square-foot Market Square Center. In all, downtown saw five transactions. The most active markets, though, were the northeast with seven transactions and the north/Carmel submarket with six deals.

Class A suburban properties in particular continue to remain favored investments, as investors look for stability and less expensive pricing as compared to other similar-sized Midwestern cities. High-quality suburban properties traded from $125 to $175 per square foot, with cap rates from the mid-7 to mid-8 percent range.

This brought new investors to Indianapolis last year, including Sun Life Insurance, Triple Net Properties, Blue Real Estate and Hertz Investment. Existing owners such as Westminster Funds, DBSI and Berwind Property Group also increased their stakes in the city.

As office market fundamentals continue to improve, building owners that have sat on the sidelines may see opportunities to capitalize on the strength of the investment market. Indianapolis is well-positioned as investors seek higher returns than those that can be found in tier-one cities.

Despite last year’s interest rate increases, rates have remained historically low. The low rates, combined with a wealth of capital and a rebound in rental market fundamentals, led to an exceptional year for the multifamily investment market. In all, we tracked 31 transactions involving more than 9,900 units in 2006.

Active investors included those with private capital, TICs, 1031 Exchange funds and investors, and institutional investors — the latter group primarily comprised sellers in 2006, but many are now returning as buyers.

Last year, cap rates on stable assets averaged about 7.5 percent, down slightly from 7.7 percent in 2005. We expect these cap rates to remain stable and perhaps even increase slightly as vacancies continue to decline and investors foresee better returns from rising rental rates.

Additionally, Indianapolis continues to offer job growth, community development and quality of life, three ingredients that provide solid fundaments for investments in multifamily product. Though smaller in size than previous years, activity in the retail sector heated up last year with seven transactions. Private investors led the way in these transactions, ranging in size from 32,000 square feet to 182,000 square feet. This is partially due to the predominance of tightly held retail assets by a few dominant players in the Indianapolis area.

Investors continue to favor retail investment in growing suburban markets such as Noblesville to the north, West Clay/Carmel to the northwest, Center Grove to the south and the Fishers/Geist area to the northeast.

Looking ahead, we anticipate strong interest from out-of-town private, fund and institutional investors that have placed Indianapolis on their radar screens. Owners that previously kept their properties off the market will begin to capitalize on such interest.

Competition for Class A or core assets, especially those of more than $20 million, will remain aggressive, as the number of such offerings is limited. With several new Class A shopping centers completed during the past 2 years, expect developers to become major sellers. Additionally, look for portfolio sales to crop up as owners pare down their holdings and redirect capital into new development projects.

John Huguenard is a principal and senior vice president in Colliers Turley Martin Tucker’s regional office in Indianapolis.