Is there growth for retail real estate?

Retail property can still be an earner, but the source of growth is going to change.

The time has come to take another look at retail real estate. For several years retail rentals have been increasing and yields firming. Capital growth has been enormous because the value of retail real estate is mainly related directly to projected net income.

Circumstances, however, are about to change.

For a community struggling to budget the costs of education, health, tax, and much-needed greater contributions to superannuation, little is left over for discretionary spending. As Australians increasingly “tighten their belts”, servicing increased mortgages and greater superannuation, retail spending will fall.

Without growth in turnover, many retail tenants will not be able to withstand increases in rent and some may even begin to seek relief.

This stalling in net rental is likely to be against the background of inflationary and other economic pressures, leading to higher interest rates. The likely impact will be a stabilisation in the growth of those retail properties where rental levels were already maximum and where customer catchment had little prospect of increase.

In this scenario, the properties most likely to be affected are those that would currently be considered “prime”.

However, retail property is not completely without prospects. There are reasonably regarded “secondary” retail strips that have potential to source real growth through a changing demographic, as a progression of younger, higher income families replace older, lower income residents.

The re-gentrification of the inner and middle suburbs is putting spark into many retail centres now experiencing greater revitalisation and faster growth than had been expected.

Compared with prime locations, many lesser centres (although having lower rental levels) can be purchased at higher yields and lower prices. They should enjoy growth as the rentals increase in reflection of the more prosperous socio-economic profile maturing within their customer catchments.

So there you have it. My tip is for well-located middle urban retail, which should be able to be bought, if at fair rental, on yields in the 5–6% range.

Historically the lowest-risk category of real estate other than residential, retail relates mainly to land, has low obsolescence, and, in appropriate circumstances, can be transferred directly into superannuation.

Many also have additional vacant land for further development. And although the typical retail tenant may not take a long lease or have a strong balance sheet, they are usually very committed small business entrepreneurs who can be relied upon to meet their commitments. Now is the time to search for some “diamonds in the rough”.

 For more coverage of the fortunes of real estate, see Industry Trends.

To read The Property Investor’s previous blogs, click here.