September 2015 – Neighbourhood Retail Overview

10 September, 2015 / Vanessa Rader and Scott Timbrell

The NSW Retail market has gone through a prolonged period of limited capital value appreciation after the challenging phase post GFC where values saw a strong correction.

Over the last two years we have seen Neighbourhood Centres emerge as a growth asset class with strong demand by private investors, funds, syndicates as well as off shore groups capitalising on the positive retail trade results around food based retailing and possible development upside. The strong weight of capital and low interest rate environment is likely to keep momentum on the investment side, while these low rates has also aided in stimulating retail demand.

Retail turnover growth has shown positive signs of growth with the annual average increase 3.4% yet quarterly results have grown to 4.0% in June. Retail trade has continued positively since the decline post GFC albeit driven by needs based spending, during this time we saw the household savings increase to a long term high and while this still continues high retail trade has increased with other segments such as household and clothing & soft goods also increasing together with food retailing. This has been supported by the low interest rates and is expected to remain positive and in the range of 3.5%–4.0% over the short to medium term. Neighbourhood retail returns have shown significant uplift which has been supported by the reduction in yields, while income returns have remained relatively stable over the past seven years the growth in this segment has come from positive uplift in capital returns. Capital declines post GFC were felt for 18 months as price corrections occurred and investment yields increased; limited demand and uncertainty saw this remain relatively flat post this period with strong growth apparent over the last two years. Currently capital returns account for 6.0% with income returns 7.5%, this total return of 13.5% is the highest rate achieved since September 2007 yet below the peak returns of over 20.0% in 1994.

The retail market has been particularly active over the last couple of years and 2015 is well on track to meet similar levels of demand. During 2013 and 2014 $9.1 billion and $6.9 billion changed hands respectively across NSW, 2015 to June has recorded $3.6 billion across over 300 transactions over $2 million. Post GFC there was a swift reduction in investment activity, investment yields grew and owners were keen to hold assets, the only major transactions being distressed transactions. The pick up in 2010 was due to Westfield enitity transactions of Sydney and Parramatta growing volumes artificially high. During the last 18 months a high level of investment has come in the Neighbourhood and Bulky Goods retail type which highlights the appetite for investment in the sub $50 million price category. Retail trade has shown a strong improvement in food retailing which has supported the convenience based nature of a supermarket anchored Neighbourhood centres while the strong residential market has fuelled demand for household goods and furniture retailing boosting demand for Bulky Goods investments.

Over the past two years the increase in investment demand most notably across Neighbourhood centres has supported the reduction in investment yields. Investment yields hit their low during 2007 hovering close to 6.00% on average, during this time however the 10 year bond rate was in the 5.75%–6.00% range which resulted in limited risk buffer seeing the spread just 0.42%. Subsequently post GFC the yields saw swift upward momentum back to a 9.00% range which saw the spread to bond rate 439 basis points. Given the reduction in the interest rates over this period and somewhat stability in the yield range the spread to bonds grew to as high as 5.75% before the most current contraction in average Neighbourhood yields. While the average yield has moved downwards to the current average of 6.20% interest rates too have reduced now at a long term low of just 2.00%, this keeping the 10 year bond rate tight at 2.50% keeping that spread in the region of 370 basis points. This swift reduction can also be attributed to the develop potential of many centres, with the possibility of mixed use residential development attractive to a new range of developer investors.

The outlook for Neighbourhood retail looks sound given the expectation of low interest rates which gives further scope for yield compression given the current spread to bond. Continued growth in the retail trade results and the heavily reliant food retailing within Neighbourhood centres will ensure demand for these assets continue, couple this with the development upside in some locations broadening the demand and investor pool.

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