Consumers have kept a steady foot on the gas this year. A record-high 197 million consumers shopped in stores or online over the Thanksgiving holiday weekend, according to the National Retail Federation (NRF). The NRF is forecasting that holiday sales will grow between 2.5 percent and 3.5 percent, with total retail spending in the United States falling between $979.5 billion and $989 billion during November and December. That forecast also is consistent with NRF’s annual U.S. sales growth—between 2.5 percent and 3.5 percent—for 2024.
ULI: Steady consumer spending is not only welcome news to retailers, but it also underscores the renewed investor interest in retail property. Where do you think the biggest challenges and opportunities lie for retail real estate investors and developers in 2025 and why?
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Chris Angelone, senior managing director, retail group leader, and Boston office co-head at JLL
The consumer has demonstrated remarkable resilience in the face of significant inflationary pressures, allocating a larger portion of their spending to both necessity and discretionary purchases. This trend has bolstered the retail sector, creating a robust environment for retail real estate.
The biggest challenge for retail real estate investors in 2025 is lack of product for sale in an increasingly competitive environment due to increased allocations to retail by institutional investors. Adding to the supply-demand imbalance is the lack of new development based on construction costs that simply don’t pencil out today.
The biggest opportunity for retail investors today is buying properties with under-market rents at well below replacement cost in high-barrier-to-entry markets where there is significant short-term and long-term NOI [net operating income] growth potential and asset appreciation.
Adrienne Ortyl, director of research at AEW
Retail property market fundamentals remain the tightest among the four core property types. Unlike [with] the other core property sectors, the lack of new supply is helping to sustain these strong fundamentals. On the demand side, while store closures have picked up in recent quarters, they have been offset by store openings. If anything, demand today is somewhat constrained by the lack of available space. The overall shortage of available space presents a compelling opportunity for development, especially as consumers’ continued spending is supporting the launch of new stores for successful concepts.
Indeed, the consumer is seemingly undeterred [by] the record-high credit card debt they are carrying and today’s higher interest rate environment. [Although] we are cautious with respect to the consumer, given the historic peak in credit card debt, their overall debt burdens as a share of income remain relatively low and supportive of future spending. That said, given the consumer risk, we believe necessity-based retail offers a better risk-adjusted investment opportunity going forward, as more discretionary retail—lifestyle and malls—may be challenged if there is a pullback by the consumer or an economic downturn.
The true challenge for property owners lies in converting today’s tight fundamentals into meaningful, above-average rent and NOI growth. The sector’s long-lease structures, high tenant improvement costs for re-leasing space, and limited tenant turnover are all acting as a governor on net effective rent growth. Yet, despite these hurdles, the strength of the current market fundamentals and the ongoing resilience of the retail sector point to a positive outlook. With the continued strength expected in the retail market, AEW believes total returns will gain momentum in the coming years, driven by the sector’s stable bond-like income growth and modest appreciation.
John Chang, senior vice president, national director Research Services at Marcus & Millichap Real Estate Investment Services
Retail space availability remains near a record low, and vacancy rates in major markets across the country will likely stay compressed through 2025 as elevated construction costs constrain completions. Demand for retail space, particularly in open-air centers, remains robust as inflation-adjusted core retail sales continue to rise, up 1.2 percent, year-over-year, in October. Considering the elevated interest rate climate of the last two years, these modest gains reiterate the durability of the sector. Retail properties remain a highly sought after asset class, with the yields on these properties still offering positive leverage in many cases. In addition, many properties still offer upside rent growth potential as leases renew.
Although headlines often highlight record-level consumer debt and suggest a weakening retail sales outlook, when these common metrics are adjusted for personal earnings and inflation, they tell a different story. Debt payments as a percentage of disposable income remain marginally below the pre-pandemic norm, [even as] total inflation-adjusted savings, including money market accounts, stand $4 trillion above the pre-pandemic level. These metrics suggest that consumers may still have the economic means to sustain consumption and support the retail sector. The combination of limited development, tight vacancy rates, and a still-strong consumer base suggest that retail property performance and investor demand will remain strong in 2025.
Rich Kleinman, Americas head of research and strategy, co-chief investment officer for the Americas at LaSalle Investment Management
In LaSalle’s view, there is a lot to like about the retail sector relative to [its] situation several years ago. E-commerce impacts are more known and are creating less uncertainty, which provides investors more confidence in the future operations of well-positioned centers. Occupancy is improving at many centers, and national vacancy rates are at low levels, indicating some degree of landlord negotiating leverage. This [mix of things] helped contribute to retail being the strongest-performing major sector in the NPI [NCREIF Property Index] over the last year.
These positives are putting retail back on the menu for new acquisitions, and the scope of properties being considered by institutional investors is broadening. When a sector is out of favor, it can punish the good properties and the bad, but that period is coming to an end. The opportunity for retail investors is to identify the properties that have been unfairly punished by investors and are now priced to deliver attractive, risk-adjusted returns going forward. These returns can come from either strong operations or yield compression associated with investors recognizing their positive attributes in the future. This [opportunity] includes identifying value in subtypes that were out of favor a few years ago . . . power centers, malls, outlet centers, and lifestyle centers.
But with this opportunity comes the challenge of applying thematic investing to this highly differentiated sector. Retail investing requires working through the details of exclusives, co-tenancy clauses, tenant credit, and options to understand which assets will deliver the NOI growth priced in by the market. It also requires a nuanced understanding of a center’s positioning in its trade area and that trade area’s characteristics. A retail center can look fantastic at first glance but fail to deliver financially for an owner [because of] small details.
Jim Costello, executive director, MSCI Research
Historically, the U.S. has been over-retailed, going back to the big development booms of the ’70s and ’80s. Buyers were cautious, and deal flow has been down severely for a number of years. It’s been recovering, but it’s still not growing. Year-to-date sales of retail properties are down 14 percent on a year-over-year basis. However, investors are getting more comfortable with retail again because the property income is starting to recover.
Consumers were flush with cash during the last parts of the pandemic, and, as people started going out again, it led to a lot of revenge spending. That spending helped property income recover after it was savaged during the worst parts of the Covid crisis. The NOI per square foot of the institutional-quality properties we track surged and is now at a level higher than where it was in 2019.
The recovery in property income has changed the investor appetite for the asset class. There’s still a bunch of cats and dogs out there, including properties that probably have an appointment with a bulldozer at some point. But what’s interesting is that the GLA [gross leasable area] per capita has been falling because there’s less construction underway and people are demolishing older, obsolete retail buildings. All of that combined helps investors feel comfortable about tentatively jumping back into the sector.
Grocery-anchored retail has been more or less bulletproof. There’s always some demand there, but in the rest of the retail market there’s a bit of a shift in how consumers are spending on goods and services. Will investors also shift their focus more to the service and the experiential side? I don’t know. What I do know is that deal flow is still falling from a year ago, and it’s difficult to get the numbers to work to buy a property. Although there is some income growth, interest rates have gone up, and the cost of financing a new acquisition is problematic.
The real kicker is that . . . current owners aren’t willing to part with their properties yet at a price that makes sense for that next buyer. And that’s what investors are going to focus on. If interest rates and mortgage rates stay high, you’re going to need sellers willing to give up a little bit more in terms of higher cap rates.
Past Economist Snapshots:
- November Economic Snapshot: Commercial Real Estate 12-Month Liquidity Outlook
- October ’24 Economist Snapshot: Green Street CPPI Data
- September 2024 Economist Snapshot: Fed rate cuts bring limited relief to the U.S. housing affordability crisis
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