Experience has taught us that the real estate market is cyclical, driven by trends that can change drastically — and, in recent years, swiftly. Right now, the market for retail center acquisitions is a challenging one. On one hand, the volatility of the stock market has driven increased investment in real estate, raising competition for viable properties. On the other, the availability of strong retail centers has decreased. The result: a true seller's market.
The volatility of the stock market over the past two years has encouraged many investors to turn to commercial real estate to reduce their risk. For the all-cash investor, real estate yield opportunities still greatly surpass the outlook for many other investments. Historically, low interest rates present attractive yield opportunities for the levered investor. The current spread between interest rates and cap rates is the highest in decades, and far exceeds the typical risk-adjustment spreads for investment real estate.
In short, money that is in retail real estate wants to stay there, and money outside the retail real estate market wants in. This imbalance has resulted in increased competition for the same product base, which, in tandem with low interest rates, has allowed sellers to price their retail centers aggressively and find willing buyers.
In addition to increased competition, certain retail trends have made the acquisition market even more challenging. Consumers have become more selective in their spending, putting a strain on many retail tenants. For this reason, it has become more critical than ever for retail center buyers to pay attention to the tenants in their acquisition targets. The credit of a center's retailers can influence the purchase price of the property, and the cap rate for a property can increase dramatically with the announcement of an anchor tenant closing its doors. Conversely, many owners are not willing to part with their lifestyle centers or large power centers because, with the right tenant mix in place, these properties can provide a higher and more stable rate of return than can be earned by reinvesting sales proceeds.
Watch for trends
With competition fierce for fewer winning properties, successful retail investing has become both an art and a science. Investors must master not only the science of valuing properties on quantitative assumptions of income and cash flow, but they must also be adroit at making qualitative decisions based on location, demographic trends and retailer viability. Retail properties, perhaps more so than any other category of investment real estate, require a constant focus on trends that affect these fundamental qualities.
Investors who make it their business to remain abreast of local, regional and national market trends are in the best possible position to see opportunities to acquire new assets. Flat or even negative future trends affecting a property may indicate that a property is at its peak value, and therefore not a well-timed investment. By the same token, identifying positive trends to the exclusion of competitive bidders will help justify the price that will have to be paid to win the bidding.
The current retail market is an extreme one, and market extremes will always magnify the importance of understanding and evaluating the fundamentals of real estate investment. By investing wisely during a difficult time, a company can strengthen its asset base while limiting its risk in a cyclical market.
Who Rick Langhorne
President of Ronus Properties, an Atlanta-based real estate firm with expertise in asset management, property management, leasing and construction management