3 Retail REITs Poised to Gain From Upbeat Industry Fundamentals

Moumita C. Chattopadhyay
8 min read

In This Article:

The Zacks REIT and Equity Trust - Retail industry constituents are expected to benefit from the consumers' preference for in-store shopping experiences and the limited new supply of retail real estate space. Retail landlords' initiatives to bolster omnichannel retailing, enhance adaptive reuse capabilities and focus on e-commerce resistant sectors are expected to drive the industry's growth, posing Brixmor Property Group Inc. BRX, Tanger Inc. SKT and Saul Centers, Inc. BFS to benefit.

However, concerns persist due to retailer bankruptcies, high expenses and potential financial strain, which could lead to more cautious real estate decisions and a potential rise in vacancy rates. Online shopping will continue to be popular due to its convenience.

Industry Description

The Zacks REIT and Equity Trust - Retail industry embodies a group of REITs that own, develop, manage and lease diverse retail spaces. These include regional malls, outlet centers, grocery-anchored shopping venues and power centers, including big-box retailers. Net lease REITs enjoy the ownership of freestanding properties, wherein the rent and the majority of operating expenses for the properties are borne by tenants. Retail REITs are significantly influenced by the broader economic health, employment landscape and consumer spending patterns. Factors like the geographical position of properties and the demographics of surrounding trade areas critically determine demand. While reduced footfall, store closures and retailer insolvencies once troubled the industry, it is now seeing a recovery due to renewed consumer enthusiasm for in-store shopping.

What's Shaping the Future of the REIT and Equity Trust - Retail Industry?

Low Supply to Help Fundamentals: Profitable retailers are expected to rent out more physical stores and expand their business opportunities with the easing of market conditions. The construction of new retail space has been sluggish due to high construction costs. Landlords of struggling malls and centers have increasingly opted for mixed-use developments in recent years, removing a significant portion of retail space from the market. This limited supply is expected to support the fundamentals of the retail real estate industry, even in the face of any economic slowdown and its impact on retail demand.

Omnichannel Retailing, Tenant Diversification and Revamp Efforts to Support Growth: Omnichannel retailing has become the focal point for many retailers. Even digitally-native brands are expanding their physical presence to strengthen customer connections. Omnichannel retailing allows customers to physically inspect products, reducing the frequency of return orders, which helps protect retailers' margins often impacted by large online returns. Retail landlords are exploring ways to diversify their offerings by incorporating healthcare providers, fitness centers, childcare facilities and recreational experiences into their shopping centers. This diversification is expected to result in a steady flow of rental revenues. Several retail REITs are focused on raising operating performance through conversion, redevelopment, repurposing of assets and re-tenanting, and these REITs are expected to grab investors’ attention. 

Interest Rate Cut Expectations Boost Attractiveness: The recent signals suggesting a potential rate cut in the September FOMC meeting are likely to enhance the appeal of REITs. Even a modest reduction in rates is favorable for the rate-sensitive REIT sector, as these companies rely heavily on debt. Lower borrowing costs generally boost investor confidence in their performance. Reduced interest rates can lead to higher valuations for REITs. In such environments, their dividend yields become more attractive compared to yields from fixed-income investments and money market accounts.

Economic Concerns and Retailer Vulnerabilities Continue to Pose Challenges: Although the chances of the U.S. economy avoiding a recession are improving, consumers are likely to remain cautious, and retailers are expected to exhibit similar behavior. This is anticipated to influence retailers' leasing decisions. The recent rise in retailers seeking bankruptcy protection serves as a red flag. High construction and operating costs are expected to pose financial challenges for retailers, impacting their store expansion plans. The ongoing popularity of online shopping due to its convenience is likely to make retailers more conservative about expanding their physical stores. An increase in tenant bankruptcies could lead to more store closures, lower occupancy rates and reduced profitability for retailers. These factors are expected to dampen demand for retail space and negatively affect landlords’ cash flows.

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