Monday Morning Scoop - Retail Investment Trends to Watch in 2023
Retail Investment Trends to Watch in 2023
With interest rates higher than they’ve been in a decade, rising inflation and concerns about a recession, it’s definitely a time of change in the retail investments world.
Many retail investors are responding to economic uncertainty by waiting and watching, while some see this time as an excellent buying opportunity with others on the sideline. And although retail investment sales have slowed down in recent months, certain property types are still in high demand, and many real estate investors consider retail to have the best risk-adjusted return in our current environment.
As we look ahead to the rest of 2023, here are three major factors in play and what they mean for retail owners, investors and others involved in the market.
Retail investment sales activity is slowing down
With interest rates increasing, many real estate investors are in wait-and-see mode. This rapid change in borrowing costs and the resulting bid-ask spread between buyers and sellers is causing a slowdown of acquisitions for the retail investments market around the country.
To illustrate this point, we looked at national retail investment sales activity for open-air single-asset retail properties (excluding malls and portfolio transactions) from 2011 to 2021. The fourth quarter of the year is typically the most active quarter, and Q4 during this 10-year time-period represented 28% to 30% of the annual sales volume and number of properties sold. In 2022, however, sales during the fourth quarter represented approximately 16% of the annual sales volume and number of properties sold, signaling a steep drop-off at the end of the year.
In addition, average annual fourth-quarter activity during the 10 years prior to 2022 showed an average of 1,622 retail property assets sold, totaling $14 billion. In the fourth quarter of 2022, 839 retail assets sold for a total of $9.1 billion. For 2022, this is a nearly 50% decline in the number of properties traded and 35% less transaction volume compared to the long-term average of fourth-quarter activity.
Private investors are still seeing investment opportunities
While rising interest rates are causing many investors to pump the brakes, it’s still a good time to buy if investors meet certain criteria. In particular, the retail investments team at Colliers is seeing many private investors, like high-net-worth individuals, and family offices come to the closing table.
Smaller investors who have strong cash flow from an existing portfolio and well-performing investments tend to be more aggressive and opportunistic at times like this. This group tends to be focused on the long-term and buys in all types of economic situations, including softer economic cycles and higher interest rate environments.
Often, they are planning for a long-term hold. So even if interest rates are higher at closing, they’ll put on shorter-term debt, predicting that the rates will eventually go down and they can later refinance. Or, they’ll put in more cash for a lower mortgage amount, or even buy properties all-cash because they have it on hand and want to buy quality real estate.
Grocery-anchored and trophy properties are in still in high demand
The operating fundamentals at high-performing shopping centers, which includes rental and occupancy rates, remain strong right now. So, retail centers that are operating in an optimal fashion continue to offer desirable cash flow opportunities for buyers. This, combined with high barriers for new construction due to very high construction costs and inflated land prices, provides confidence that there will be continued strength in retail property operating fundamentals for the next several years.
In particular, grocery-anchored retail is still in very high demand. Even though the cost of debt has gone up, many Class A grocery centers are attracting all-cash buyers that are taking a long-term investment approach. In addition, many institutional investors are viewing grocery retail as the best risk-adjusted return across the investment spectrum, compared to other real estate product types.
As for non-grocery-anchored centers, demand depends on the quality and positioning of the asset. For example, a trophy or class A retail property that doesn’t come to market frequently will attract a good pool of prospective buyers and solid pricing. There is no shortage of capital in the market – investors still want to buy quality retail, and this continues to create a vibrant market with many bidders on quality properties.
Some investors are shifting investment capital toward retail
Despite the overall slowdown in retail investment sales activity, we have seen a trend of more investors shifting capital away from other asset classes and into retail properties. This is due to quality retail being seen by many as the best risk-adjusted return in today’s environment.
This is largely due to the fact that investors can measure risk of retail investments better than for most other asset classes. For example, a shopping center investor can visit the property, see how full the parking lot is, go inside to see the stores, and see the shoppers and level of activity. Conversely, office investors have little visibility into what’s going on inside an office building, such as how many people are using the office versus working from home, or what the go-forward strategy will be upon lease expiration.
In addition, on apartments and industrial properties, the cap rates have been lower than on retail properties over the last couple of years, and with the rise of interest rates, it has put more pressure on overall returns from these asset classes when compared with retail.
Transaction activity isn’t going away
While the slowdown of acquisition activity in the retail investments market may have some concerned, it’s important to know that transaction activity isn’t going away. It appears to just be slowing down until there’s more certainty in the market.
It’s encouraging to note that periods of slower transaction activity are typically followed by periods of greater activity. We may not know when that shift will come, but we do know this current situation is temporary, and we are excited and ready for a robust level of transaction activity when full confidence returns to the market.
By: Brad Peterson