This article is republished with permission from REITCafe.
Regional mall REITs fell 2.18 percent on Thursday, August 11, according to the National Association of Real Estate Investment Trusts (NAREIT), on a day when the Dow Jones Industrial Average gained 0.65 percent. Macy’s and Kohl’s have reported healthy second-quarter earnings, and Wall Street reacted favorably to the retailers’ news, hoping that it signals a turnaround for the sector. However, Macy’s also announced plans to close 100 of its 675 traditional full-price locations and to increase investment in its online channel, which heightened concern about bricks-and-mortar retail versus e-commerce and led regional mall REITs lower.
Macy’s and Kohl’s results were better than expected, but other retailers such as Fossil and Michael Kors had previously reported softness in their U.S. wholesale sales for the second quarter, creating the expectation of poor second-quarter performance for the department stores. In addition, Coach announced plans to close about 25 percent of its North American department store locations. These retailers’ results were partially driven by the the strong dollar, which negatively affected spending by tourists from outside the United States.
| TREPP-i Survey Loan Spreads (50–59% LTV)* |
| This Week | Previous Week | Previous Month | End 2015 | End 2014 | |
| Industrial | 173 | 168 | 168 | 163 | 138.5 |
| Multifamily | 172 | 164 | 166 | 168 | 139.8 |
| Office | 187 | 175 | 176 | 168 | 148 |
| Retail | 178 | 168 | 169 | 168 | 139.8 |
| Average Spread | 177.5 | 168.75 | 169.75 | 166.75 | 141.5 |
| 10-year Treasury Yield** | 1.51 | 1.59 | 1.57 | 2.27 | 2.17 |
Nevertheless, good weather and discounting brought customers in and increased sales. Consumer spending also accelerated from early in the year, climbing 0.4 percent in May.
Macy’s did not specify which stores it will close, but it is a tenant in 175 properties that underlie commercial mortgage–backed security (CMBS) loans with a combined total balance at origination of $24 billion, according to data from Trepp. Exposure to Macy’s is significant; on average, Macy’s occupies about 20 percent of the space in these malls. Of these loans, 94 percent are currently performing.
The largest mall REIT, Simon Property Group, was down 2 percent on August 11, since Macy’s and Sears are its top anchors. Macy’s occupies 122 stores totaling 23.2 million square feet (2.2 million sq m), while Sears has 71 stores totaling 11.9 million square feet (1.1 million sq m). In addition to Macy’s closures, Sears announced plans in April to accelerate the closure of 78 stores, including ten Sears.
REITs do not always own the department stores that anchor their malls; but whether owned or not, the department stores are important drivers of traffic. In cases where the department stores are not performing well, store closures can create opportunities for redevelopment to bring in better tenants that will draw more mall traffic. Macy’s president, Jeff Gennette, noted that profitability at most of the stores to be closed has been declining in recent years and that some of the stores are being closed because they have greater value as redevelopment sites than as department stores.
Following Macy’s announcement, earnings reports from other department stores have sent stocks up and lessened worries about department stores. After the market closed on Thursday, August 11, Nordstrom reported sales in line with expectations and earnings above forecast, noting that it benefited from sales to reduce inventory. Its stock was up more than 7 percent early Friday afternoon. Dillard’s stock was up about 1 percent on Friday afternoon, even after the retailer reported a significant decrease in revenue and earnings for the quarter, citing competition from e-commerce.
The regional mall REIT sector turned upward on Friday, in spite of flat retail sales numbers for July that showed that consumers cut back on purchases of clothes and other goods. Whether Thursday’s trouble in the retail REIT sector proves to be a temporary blip or a sign of further long-term deterioration in the mall sector remains to be seen. Regional malls have posted year-to-date returns of 11.02 percent, which is solid, but well below the FTSE NAREIT All Equity REIT average of 15.11 percent. Back-to-school shopping and the winter holidays will be crucial sales seasons for retailers and regional malls.
* TREPP-i Survey Loan Spreads levels are based on a survey of balance sheet lenders. For more information, visit Trepp.com.
** - 10 yr. Treasury Yield as of 8/12/2016.
