News & Trends

Retail real estate trends 2013: Which way will the pendulum swing?

Posted by: Mike Pappagallo Mike Pappagallo
on February 6, 2013

In formulating our views for the retail real estate market in 2013, I keep going back to the notion of a pendulum swinging. There’s reason to be both optimistic as well as cautious about nearly every issue and trend that could impact the industry this year.

We’re heading into the new year with strong stock market performance — REITs outperformed the broader stock market in 2012 with a 20.1 percent return, compared to the S&P 500’s 16 percent gain. The retail sector in particular delivered a 26.7 percent return in 2012. In addition, retail sales overall in 2012 grew 5.2 percent, according to the Commerce Department.

Early in 2013, we’re dealing with some negative macroeconomic factors — in particular, U.S. debt problems and a delay in budget negotiations with the House approving a bill to suspend the nation’s debt ceiling until May. And despite the overall sales growth, the holiday season sales growth was slower than the past few years. On the other hand, we’re seeing evidence of continued housing market improvements, retailer growth, and healthy equilibrium between retail supply and demand.

At the end of the day, we believe these opposing forces will counterbalance each other to result in a solid, if unspectacular year in retail real estate. All things considered, here are some of the biggest issues and trends we are watching in 2013, and the reasons we see for being optimistic and cautious about each.

Consumer confidence. The biggest issue facing retail real estate is consumer uncertainty bred by macroeconomic factors, including U.S. budget issues, with the resulting increases in taxes and probable cuts in government spending.

Reason for caution

Consumer confidence dropped in January to its lowest level since August, according to The Conference Board. Diminished confidence is evidence that consumers were growing pessimistic about the economy with the then-looming fiscal impasse in Washington. This analysis suggests a continued dent in confidence as we face more Washington gridlock on fiscal policy in the first part of the year. In addition, it remains to be seen how the payroll tax increase will impact consumer spending.

Reason for optimism

On the other hand, continued housing recovery will revitalize consumer confidence as homeowners begin to feel their home equity is improving. We’re seeing a more definitive rebound in the housing market, with increases in home sales, prices, and housing starts, and reductions in foreclosure and default rates. Some markets are doing especially well, such as Massachusetts, where home sales rose over 18 percent to 46,887 last year, the highest number since 2006. In addition, evidence shows that weakened consumer confidence in December didn’t deteriorate consumer spending. In fact, retail sales across the nation rose 0.5 percent to $415.7 billion in December, according to the Commerce Department. We’re also seeing upticks in consumer credit card spending and credit availability. Chase Freedom, for instance, reported several significant quarter-over-quarter spending increases among its cardholders in Q4, including toys (81 percent), electronics (65 percent), and jewelry (49 percent). Together, these signs indicate momentum in consumer spending, which could continue into 2013.

Retail technology. E-commerce won’t be the big story in 2013 so much as retail technology overall.

Reason for caution

Consumer privacy has never been more important than today, in the Internet and social media age. Pressure to improve consumer privacy led to the creation of the Consumer Privacy Bill of Rights last February, followed by the development of the FTC’s March report, Protecting Consumer Privacy in an Era of Rapid Change. New privacy issues could develop in 2013 as the Big Data era strengthens, more analytics firms create shopper tracking systems, and retailers more aggressively experiment with such technologies to improve shopping experiences and drive sales. As a result, the retail industry could face increased scrutiny and new privacy regulatory compliance requirements could slow technological innovation.

Reason for optimism

Strong retailers are more aggressively adapting their business strategies to win foot traffic through online approaches — social media especially. For instance, many top brands have developed social networks well beyond critical mass on Facebook, Twitter, Google+, Pinterest, and YouTube, which are now hubs of customer engagement and marketing. What’s more, a record 27,000 attendees turned out for this year’s National Retail Federation’s Annual Convention and EXPO, which was hot with new mobile technologies and myriad other innovations. This suggests that technology is a top business focus for retailers this year, and we could see dramatic increases in technology adoption to drive value, competitive differentiation, foot traffic, and sales.

Barbell effect. We’re continuing to see the “barbell effect” in retail, in which high-end retailers and value-oriented retailers are doing well, while middle market retailers are struggling. On the luxury side, many higher income consumers feel less impact to their lifestyle and spending habits by the overall economic conditions. On the value side, it has become increasingly necessary for most Americans to shop thrifty, and value retailers have expanded their offerings to provide greater variety to meet demand. Meanwhile, mid-tier retailers, including certain department stores and supermarket chains, have been more challenged, as reflected in recent same store sales trends.

Reason for caution

The overall tax rate increase for higher income Americans could have a material impact on U.S. consumer spending, recognizing that the top 10 percent of people in the U.S. control almost 50 percent of income and spending. In addition, the expiration to the temporary cut in Social Security withholdings (part of the fiscal cliff) is taking $18 to $20 away from the average American household each week. That adds up to $900 to $1,000 each year, which could reduce retail spending and slow economic growth. High-end retailers experienced the greatest slowdown in comp sales trends in the fourth quarter of 2012.

Reason for optimism

Here we see a counterintuitive outcome of possible government spending cuts. Americans who depend on government programs and entitlements that get reduced will be even more challenged to stretch a dollar. This suggests value-oriented retailers will become even more important to these consumers. In addition, a continuation of the housing recovery and low gas prices might provide enough of a catalyst to keep sales growth positive.

Retail formats. We’re seeing strong retail formats grow, and weak ones increasingly fade away.

Reason for caution

Retailers are under pressure to adapt their business models to the fast-growing online and e-commerce environments. Many retailers are rethinking the roles that their physical and online stores should play in conjunction with each other. We’ve seen some commodity retailers in particular shrink their physical store footprints and push more products online, such as those offering toys, books, office supplies, and electronics. As a result, these retailers will put more space back on the market, which will need to be absorbed. In addition, several merchants – including Best Buy, Target, and Toys “R” Us — launched price matching policies during the holiday shopping season, and Target is the first to continue its price matching policy into 2013. Price matching has its pros and cons. On the con side, price matching can reduce margins and become unprofitable. This can cause retailers to have to pull back their efforts, which can weaken consumer satisfaction. There is a plus side to price matching, however, which I’ll explain in the next section.

Reason for optimism

2013 will continue to be a strong year for food and personal service retailers. Food includes all restaurants, from fast casual to sit-down dining. Personal service concepts encompass gyms, spas, hair and nail salons, medical facilities — anything and everything you can’t do or buy online. As a result, they will forever have a place in brick-and-mortar retail. In Kimco’s portfolio alone, much of the new business formation has been in these categories. We’ve also seen growth in franchising in our portfolio, suggesting that business owners are increasingly deciding to lean into proven business models. In our case, we’re supporting this trend through the FastTrack Franchise program we launched last year. We’ve also seen growth in our portfolio from stronger retailers in well-performing formats. For instance, discount apparel retailers — such as T.J. Maxx, Ross, and Nordstrom Rack — have been aggressively absorbing space vacated by struggling mid-level retailers. Chains such as Whole Foods and Trader Joe’s have established loyal followings at a time when the nation’s interest in food and healthy eating has escalated. Lastly, there is reason to be optimistic about retailers’ price matching policies, because they signal new initiatives to strengthen competition and combat showrooming. Showrooming is increasingly a thorny issue for many retailers, with 43 percent of U.S. adults having showroomed, according to Harris Interactive.

Retail supply. Retail supply remains low, however, many retailers are planning to expand in 2013.

Reason for caution

New construction starts are forecasted to be below 1.0 percent of existing stock, according to Citi Research. This would keep retail supply down. However, it can still be challenging to absorb new inventory in any area — even strong markets — if the inventory is poor quality or cannot fit the growing retailer’s requirements. We shouldn’t get too comfortable thinking that because new construction is limited that all existing supply will be absorbed quickly. Demand is not uniform across all retail centers or markets, and absorption has been most pronounced among users of larger spaces. Demand for small spaces has only recently begun to pick up.

Reason for optimism

Strong retailers — such as the discounters mentioned in the previous section, are growing their footprints strategically and prudently in well-established markets and infill locations, including the sturdier secondary markets. In fact, retailers are planning to open 81,990 stores over the next 24 months, according to RBC’s database. This is a new high since at least 2008. This type of growth typically drives up the value of high-quality shopping centers and helps landlords increase their rental rates in those centers.

The bottom line seems to be that consumer uncertainty will persist until deals are struck in Washington. Gaining visibility into future budget tactics, spending, and programs will be crucial to improving consumer sentiment in 2013. Even if economic growth is tepid, clarity around our federal budget will help spur individual and institutional investing.

Taken together, we predict 2013 will be a solid year for retail real estate, because positive movement on fundamental factors will help us overcome external pressures. Ending 2013 on a high note will provide even more positive momentum into 2014 to keep the real estate market on the upswing.

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