Wells Fargo Securities: Is Retail Demand Sustainable?

The retail sector is reinventing itself with ‘experiential’ tenants such as restaurants, movie theaters, fitness centers and art galleries to counter slowing brick-and-mortar sales, reported Wells Fargo Securities, Charlotte, N.C. 

But will changing tenant mixes be enough to sustain the sector? 

In a special commentary, Is CRE Retail Demand Sustainable?, Wells Fargo Securities Senior Economist Anika Khan said the retail vacancy rate fell to 5.7 percent in the second quarter and asking rent advanced 2.5 percent year-over-year. “Demand has outpaced supply for 16 quarters, a run that is unprecedented based on CoStar Portfolio Strategy data,” she said. “Supply is muted with completions as a percentage of inventory low relative to previous cycles, and the pipeline of construction projects expected to remain subdued in the coming years.”

Growing e-commerce has slowed the retail sector–especially malls and neighborhood shopping centers–but retail operating fundamentals remain positive, the report said. It noted that mall asking rent growth notched a double-digit gain in Q2 and neighborhood center activity also improved. “Much of the surprising sector resilience can be traced to landlords shifting the tenant mix from traditional anchors to experiential anchors like restaurants,” it said.

But the report noted that food and drinking establishment sales, shopping center foot traffic, same-store sales and its Restaurant Performance Index all softened in recent quarters, raising the question of whether slowing experiential demand could slow overall retail demand. Wells Fargo Securities modeled the components that make up more than 80 percent of retail demand variance including the savings rate, retail net operating income change, same-store sales, real retail asking rent and revolving credit. 

Khan said a “confluence of factors” including leisure and hospitality sector wage gains and an increase in consumers’ preference to eat at home drove a downshift in experiential activity. “[But] using the long-run trend, we expect the modest pace of retail demand growth since 2014 to persist in the coming quarters,” she said.