Investor sentiment in retail property improving as the sector demonstrates resilience

18 September 2024

Investor sentiment in Australia’s retail property market is improving as macro headwinds ease and the sector looks set for growth in 2025 and beyond, according to Knight Frank’s latest Australian Retail Review.

The report found that after a period of limited liquidity, deal volumes in the sector were starting to pick up, with $3.9 billion traded in the first half of 2024, up 46% on the low total in H1 2023. NSW has led the way with $1.4 billion traded, followed by Queensland and Western Australia with $700 million in each state.

Ben Burston, Chief Economist at Knight Frank said investors were responding to the prospect of an improving economic climate, with uncertainty around the outlook for inflation and interest rates no longer such a brake on deal activity.

“A return to income growth, with an improvement in leasing spreads and MAT (moving annual turnover) levels, is also persuading more investors that the sector has been resilient through this period of consumer weakness and offers long-term growth potential as the economy recovers,” he said.

“Retail owners have reported a strong turnaround in leasing spreads, with a broad-based return to growth in 2023.

“Vicinity and Scentre Group have reported growth of 3% and 3.1% respectively, while operators of smaller neighbourhood assets such as HomeCo reported a continuation of solid growth at 5.9%.

“In addition, major shopping centres have experienced solid growth in MAT over the past year, with most major centres experiencing growth of 4% to 6%, supported by strong population growth and the gradual restoration of centre visitation after the disruption caused by the pandemic.”

Mr Burston said with household spending set to improve, the conditions were in place for growth in the retail sector in 2025 and beyond.

“After a slow 12 months for retail sales momentum, consumer retail sales are now forecast to rise by 3% in 2025 in nominal terms and by 2% in volume terms.

“The combination of solid wage growth and declining inflation has shifted real income growth back into positive territory, and further improvements are expected in 2025 and 2026. In addition to this, tax cuts and a raft of cost-of-living measures from State and Federal governments will also aid the consumer and bolster disposable income.”

Knight Frank’s Australian Retail Review found retail investment performance had been relatively weak in key markets overseas like the US and UK, but in Australia the sector had been more resilient due to several key differences including a considerably lower supply of retail space and a slower take up of online sales.

Looking ahead, the development pipeline remains very limited, with major owners more focussed on optimising the performance of existing assets rather than expanding their holdings through development.

Australia’s strong population growth is contributing to low per capita supply and underpinning high visitation levels and MAT growth in the major centres.

The country’s lower online retailing presence currently sits at 11.6% of total retail turnover, further reinforcing the comparative resilience of in-store retailing domestically. In comparison, the online penetration rate has reached 30.6% in the UK and 15.8% in the US.

Campbell Aitken, Head of Retail Investments at Knight Frank said private capital was driving the retail investment market in Australia.

The Knight Frank report found private investors had been the most active, accounting for 41% of total acquisitions in 2023-24.

“The change in investment market conditions over the past two years has led to a significant shift in the composition of the investor mix seeking exposure to the retail sector,” he said.

“Domestic institutions and cross border investors have largely sat on the sidelines, while listed groups have opted to reduce their holdings and private investors have been the most active buyers.

“Private investors tend to be more opportunistic and have historically been relatively active during periods of uncertainty and less liquidity, but as sentiment improves, we expect the investor base to broaden out with institutional capital likely to return.”

Mr Aitken said valuations were still adjusting, but sentiment was on the rise as the risk of further rate hikes diminishes.

“Yields have continued to rise as markets continue to adjust to the higher interest rate environment.

“However, retail has been less impacted than office and industrial markets that were priced more sharply prior to the correction.

“Average retail yields have moved out by only 50 basis points over the past two years, while average office and industrial yields have risen by 110 and 130 basis points respectively.”

“While valuations have lagged and may have a little further to adjust, pricing does now appear to be stabilising, and retail is well placed to benefit from rising income returns as the market enters a recovery phase in 2025.

“Uncertainty over the outlook for interest rates is now easing, with markets pricing in cuts by mid-2025, and investors increasingly perceive an opportunity to acquire assets at a cyclical low point that will pave the way for strong performance in years to come.

“Even if rate cuts do not come through as quickly as markets anticipate, downside risks have reduced and sentiment is improving in response to recent evidence of resilient trading performance in the major centres.”