Retail property investment risks higher than ever: BIS Oxford Economics

There is no relief on the horizon for the muted retail industry due to tough economic conditions and investment risks in the sector are higher, according to forecaster BIS Oxford Economics’ latest report.

A soft economy, weak household income growth and subdued consumer spending will continue for some years, while Amazon’s entry will only add to the challenges to Australian retailers and shopping centres, says Retail Property Market 2017 to 2027. 

“While the spectre of large scale shop closures, declining retail employment and abandoned shopping centres that we see in the US is unlikely to be repeated to the same extent in Australia, the risks associated with retail property investment are arguably higher than at any time in the past,” it says. 

Returns are expected to vary significantly from centre to centre, while some will fail, it cautions. 

Report author Maria Lee observed that the retail environment remains challenging against the backdrop of a difficult economic transition—away from an economy underpinned by a resources boom and back to more broadly balanced growth. 

“This is proving to be a long, hard slog. We expect retail expenditure to remain muted for the next three years,” she said. 

Shopping centres will struggle to match the pace of aggregate turnover growth due to heightened competition from additional retail floorspace and the continued growth of online sales—now given fresh impetus by the expansion of Amazon. 

Other challenges in converting turnover growth to additional centre income include over-rented shops, high leasing incentives, poorly performing anchor tenants and pressure on retailer profit margins. 

In addition, changing consumer spending patterns means centres must constantly be reinvigorated — and this involves spending money, it concludes.

“We forecast shopping centre net income growth to barely keep pace with inflation over the next five years, with probably more downside than upside risks to those forecasts” says Lee. 

On a positive note, however, BIS Oxford Economics said retail property remains in high demand among investors, with the dollar value of transactions seemingly held back only by a lack of stock for sale. 

Meanwhile, existing owners are pumping large sums of money into (often defensive) refurbishment/expansion projects. Competition for assets is driving yield compression, thereby boosting centre values and total returns. Average yields for regional, sub-regional and neighbourhood centres are all below pre-GFC levels. 

“We can’t see much further yield firming from here. If anything, the main risk is in the opposite direction” said Lee. 

Putting income and yield forecasts together, BIS Oxford Economics forecasts modest IRRs of below 7% over a five-year investment horizon, with considerable variation from centre to centre. 

Some centres are at risk of losing anchor tenants and/or specialty retailers and will underperform. Even for stronger centres, Lee notes that “even experienced shopping centre managers may have trouble in dealing with what are arguably the toughest conditions yet in retail property investment.”