Against the backdrop of this year’s Cyber Monday generating record-shattering online sales estimated at $9.2 billion, commercial real estate experts envision e-commerce-fueled industrial REITs being a shining star of the REIT show in 2020. Meanwhile, in tandem with the e-commerce explosion, regional mall REITs will continue to face challenges next year, experts say.
“The e-commerce-driven demand … that has allowed industrial to stay in the sweet spot has pushed most retail into recession,” Green Street Advisors Inc., a Newport Beach, Calif.-based provider of real estate research and advisory services, noted in a November 2019 commercial real estate outlook.
Despite the fact that commercial real estate services company CBRE predicts industrial supply in the U.S. will outpace demand by 20 million to 30 million sq. ft. next year (representing just 0.2 percent of industrial inventory), real estate observers predict the industrial REIT sector will remain vibrant in 2020. In fact, Green Street foresees an increase of 100 basis points in industrial rent growth next year; in the third quarter of 2019, industrial REITs posted an occupancy rate of 96.3 percent, according to trade group Nareit.
Based on projected returns, the industrial sector represents one of the best investment bets over the next five years, Green Street says. For the first nine months of this year, total returns for industrial REITs ranged from 21.3 percent in the first quarter to 7.2 percent in the third quarter, according to Nareit. That compares with a range of 1.2 percent to 16.3 percent for all equity REITs.
“Industrial REITs that include distribution and logistics facilities will continue to see strong demand, rent growth and earnings growth,” says Yung-Yu Ma, chief investment strategist at BMO Wealth Management, a unit of Toronto-based BMO Financial Group.
Among the shrinking number of industrial REITs, San Francisco-based Prologis Inc. reigns as the player to watch next year, based partly on its two blockbuster acquisitions in 2019. In October, Prologis agreed to buy Wayne, Pa.-based Liberty Property Trust, a publicly-traded industrial REIT, in a stock-and-debt deal valued at $12.6 billion. Three months earlier, in July, Prologis said it was scooping up the wholly-owned real estate assets of Denver-based, non-listed Industrial Property Trust Inc. for nearly $4 billion in cash. Both deals are set to close in 2020.
Another reason to keep an eye on Prologis: It’s blessed with access to more than $10 billion in capital to finance growth. And it plans to start development of $2.2 billion to $2.5 billion worth of warehouses in 2020, with about 40 percent of those being build-to-suit projects. Furthermore, the REIT predicts robust annual returns of 10.5 percent to 11.5 percent from 2020 through 2022.
Despite some potential softening of the U.S. industrial market next year, overall fundamentals for Prologis and its rivals “will remain strong due to continued e-commerce penetration and demand for logistics space. Rent growth will be driven by newly constructed facilities and infill properties,” CBRE researchers note. The real estate company forecasts industrial rent growth of 5.0 percent in 2020.
CBRE points out that absorption gains will be hard to realize next year in the industrial sector due to rock-bottom vacancy rates and limited options for space in a number of geographic markets. Absorption headwinds should be buffered somewhat, though, by higher-than-normal renewal rates for industrial space.
As industrial REITs look toward a generally sunny 2020, clouds remain on the horizon for retail REITs, particularly those that own malls. Green Street notes that retail rents are declining at malls and are “barely holding up” at strip centers, although Nareit reports rent growth for all retail REITs increased by 1.3 percent as of the third quarter of 2019 compared with the same time last year.
Industry insider expect the rockiness of the retail sector in 2019 to stretch into 2020. This year, returns for retail REITs plummeted from 14.4 percent in the first quarter to negative 6.8 percent in the second quarter and then bounced back to 6.1 percent in the third quarter, according to Nareit.
While total retail sales in the U.S. are expected to slip in 2020, CBRE researchers say positive net absorption and rent growth in most markets will be spurred by a lack of new supply and the opening of thousands of new stores.
However, retail REITs—particularly those that own regional malls—will undoubtedly closely monitor store closures in 2020. By this November, more than 9,000 stores had shut down across the country, up nearly 55 percent from the total for all of 2018, according to a tally by Retail Dive. Hundreds more closures are already on tap for 2020.
With store closures “showing no signs of abating” in 2020, mall REITs will keep grappling with the retail sector’s challenges, says BMO’s Ma. “Retail is following the ‘winner take all’ path spearheaded by the technology sector,” he says.
Patrick Healey, president and founder of Caliber Financial Partners LLC, a financial advisory firm based in Jersey City, N.J., is quite bearish about the state of mall REITs in the coming year.
“Shopping mall REITs will continue to struggle and will be cast in the spotlight if and when any high-profile retailers file for bankruptcy. A number of chains that have historically represented anchor tenants in malls throughout the country are struggling to compete with e-commerce players like Amazon, says Healey, citing J.C. Penney Co. as one of those troubled anchor retailers.
For their part, executives at Indianapolis-based Simon Property Group Inc., the country’s largest retail REIT, are hardly ready to declare that 2020 will be a bust.
During Simon’s Oct. 30 earnings call, the REIT’s vice chairman, Rick Sokolov, said leasing activity remains strong, with “more productive” tenants backfilling some empty spaces at higher rents. Average minimum base rent for Simon’s U.S. malls and outlets rose by 1.2 percent to $54.55 per sq. ft. as of Sept. 30 vs. the same time in 2018, while the occupancy rate dipped to 94.7 percent from 95.5 percent.
David Simon, the REIT’s chairman, president and CEO, said his company “will be OK” in 2020, as it keeps “hustling” to find new tenants.
“I’ve seen so many companies throw away [next] year and say, ‘Well, we’ll get back [in] 2021, we’ll get back in 2022.’ We do not do that,” Simon told Wall Street analysts. “The biggest setback that I see for next year is not so much replacing [bankrupt tenants], but really getting our redevelopment pipe open.”