In an extensive research report, King Sturge reports that the five big economies (UK, Germany, France, Italy and Spain) are all likely to be near or in recession in 2009, whilst emerging economies (such as Bulgaria, Czech Republic, Poland, Romania, Slovenia and Slovakia) will see positive economic growth. This will mean that 70 percent of all retail sales in Europe will come from only five countries; France, Germany, Italy, Spain and UK. The five countries with the lowest sales per capita are Bulgaria, Romania, Slovakia, Lithuania and Poland. Greater affluence will see sales per capita increase, providing a firm foundation for further modernisation of these historically underdeveloped markets.
Of all the commercial property sectors, retail is one of the most precariously placed. Both the investment and occupier markets are under severe pressure from different sides – the former from volatility in capital markets and the scarcity of finance, the latter from a depressed consumer market and deteriorating retail sales. Difficult as the retail and retail property markets are, it is important to remember that neither has stopped – consumers may be tightening their belts, but they still go shopping. Retailers still have floorspace needs. Shopping centres still have tenants. Understanding and responding to the market is the new challenge. Expectations must be reappraised and in many cases lowered.
In such an environment, denial is not an option. However, a fresh sense of perspective is required, around three key issues: In terms of a timeframe, a recovery is not imminent, so the property community must look to and plan for the longer term. In terms of expectation, total returns of nearly 20 percent are not ‘the norm‘, merely the peaks of a bull market in the mid 2000s. They will take a long time to recover to this level. Investors must survive on rental income where it is available. And, finally, in terms of action, rather than rely on a bull market for yield shift, property investors will have to create value themselves through a more strategic approach to stock/ site selection and even more proactive asset management.
Tenants’ market
One of the key concerns is the substantial retail property development pipeline, which is being delivered at a time of economic depression. The evidence is that the schemes opening in 2008 seem to have leased well. However, looking at 2009 and beyond, we are likely to see a growing number of schemes put back into a ‘holding pattern’, whilst some will never ‘take off’. It is important to distinguish between the investment and occupier markets. Whilst the former has undoubtedly collapsed in many European countries, occupier markets have thus far proved more resilient. As a result, rents are currently holding up better than capital values.
It is now a ’tenants’ market’. As occupiers face slowing retail sales, there is a discernible shift in the balance of power between landlords and retailers in favour of the latter. Retailers are becoming increasingly demanding in their space requirements and driving a harder bargain in agreeing rental terms. There will be some fall-out from the sector, with a number of retailers likely to fail in 2009. Occupier demand will be weak, with secondary and tertiary sites most likely to be affected. Fears of a widespread destabilisation of the occupier market however (and vast quantities of vacant floor space) are unlikely in most markets.
Although these are generic issues across the pan- European retail market, it is vital to understand the differing dynamics between individual countries and individual towns. Some countries are more immune to the global slowdown. Others are immature in their retailing infrastructure and are still very much in the development phase. It is dangerous to make sweeping assumptions about retail and retail property markets and apply them to every country and every retail asset. Investment and development opportunities still exist, even in times of financial turmoil. The re-pricing of assets will open up extraordinary investment opportunities, particularly for ‘cash rich’ players such as the sovereign wealth funds.
Economics
GDP growth in the eurozone of 2.6 percent in 2007 is forecast to slow to just 1.6 percent this year. Although no economy is fully incubated from the global slowdown, some have been much more affected than others, notably the UK and Spain. Economic slowdown is becoming increasingly widespread across most Western European countries. There is a growing economic polarity between Western Europe and Central and Eastern Europe (CEE). Whereas the former countries are usually driven by ‘foreign demand’, the latter are more aligned to ‘domestic demand’. Consumer markets in CEE are likely to remain relatively immune to other financial crises, such that over the next ten years GDP is forecast to grow at twice the rate of the eurozone (4.1 percent versus 2.0 percent).
This has positive implications for the retail property market in CEE. Although local capital markets may be affected by a sharp decline in Foreign Direct Investment (FDI), growth in consumer markets will continue to provide impetus for the retail market to modernise. This provides a solid foundation for new retail floorspace development. The strength of consumer markets in CEE is underlined by forecasts of robust retail sales growth. Over the next decade, explosive growth is expected in Bulgaria (+96 percent), Romania (+73 percent) and Slovakia (62 percent). Even more mature CEE markets are forecast to enjoy stellar retail sales growth, especially Poland (+60 percent) and the Czech Republic (+51 percent). Only Hungary will be more muted (+18 percent).
Identified retail sales growth ‘hotspots’ in CEE include the areas around Warsaw, Wroclaw and Gdansk in Poland and the metropolitan areas around Bucharest and Cluj in Romania. Although many of the Western European countries are poised to enter recession, the longer-term outlook is broadly positive. Hard as it may be accept within the current depressed environment, even the UK is forecast to annualised GDP growth of 2.4 percent over the next ten years.
Over a longer time frame, a large number of retail sales growth ‘hotspots’ will emerge in Western Europe. These include many areas in Sweden (Stockholm, Gothenburg, Malmö), France (Paris, Montpellier, Toulouse) and the UK (London, Thames Valley and Yorkshire). Although the wider German market is likely to remain economically subdued (especially in the East), there are isolated retail sales growth areas there too, including Freiburg and parts of Bavaria.
European retail
Internationalisation amongst retailers continues to prove a catalyst for welcome change across Europe. In mature Western European markets, new overseas retailers ensure a continuing sense of market diversity, as well as fresh demand for retail space. In CEE, internationalisation is more a necessity. With a huge development pipeline in most countries, a constant flow of new retailers is needed to simply occupy all the space. Cross-border trade accounted for around 12 percent of all European retail sales in 2007. In other words, more than one euro in every ten is now being spent in a foreign retailer unit trading in an overseas market.
The evidence is that retail sales in most countries have yet to feel the full force of the economic slowdown. Pressure on retailers themselves is therefore likely to intensify rather than ease. This will have implications for occupier demand and rental growth going forward, but we do not think that the occupier market will be drastically undermined by excessive fall-out. Paradoxically, the share of cross-border retail sales is likely to increase on the back of a wider slowdown in economic and retailer markets. Large, international players are likely to be less vulnerable than many of their smaller, indigenous peers. As well as being more defensive, they are also more likely to be protagonists in any merger and acquisition activity that may well ensue as part of the slowdown and possible fall-out.
As the economic crisis deepens and access to capital and debt becomes increasingly limited, retail property yields are softening across most of Europe. Prime retail yields in the UK moved out by around 150 basis points between June 2007 and June 2008, with further weakening since then. With the number of transactions also diminishing, it is also becoming increasingly difficult to gauge where the market is at. This trend is largely a pan-European one. Even in the more mature markets of CEE, there has been outward movement in prime retail yields, including Poland (+25 basis points), Hungary (+50 basis points) and the Czech Republic (75 basis points). This marks a correction on virtually uninterrupted yield compression over the last few years. Only in less mature CEE markets (where yields are higher in any case) has there been any evidence of any hardening or stability.
Data shows that 2007 was very much a year of two halves, the first benign, the second a precipitous collapse, with further deterioration during 2008. 2007 investment figures belie current trends. The total value of shopping centre transactions actually increased last year, by 3 percent to €26.6 billion. The UK (€9.1billion) and Germany (€4.3 billion) accounted for 50 percent of this figure. As markets deteriorate, particularly in the UK and Germany, the figures for 2008 are unlikely to be anything close to this.
‘There is little respite in prospect until 2010’, says Stephen Springham, retail research partner, at King Sturge in London. ‘Even then, total retail returns across most of Europe are forecast to remain in single digits. Annual average total returns in the UK are forecast to be 5.8 percent over the next five years, compared to 15.2 percent over the last five (and 17.9 percent over the last three). Most of the key European markets are forecast to achieve annual average total returns over the next five years in the range of 5 percent to 7 percent, with some degree of out-performance in Sweden and France.’
