Retail investment expected to stay strong in 2004.

Class A retail assets will continue to be attractive to investors in 2004, according to Rick Latella, senior managing director, Retail Valuation, of Cushman & Wakefield.

The strong performance of retail REITs, low interest rates and the overall performance of the economy will bode well for retail real estate, the firm said.

"The owners of top quality assets generally have locational advantages which they have successfully leveraged with dominate tenants," said Mr. Latella.

"REIT stock prices have out performed the broader market, which pumps a great deal of capital into real estate. And interest rates, although I expect them to rise slightly this year, should continue to stay near historic lows."

However, Mr. Latella cautions that unless the economy begins to see net job growth, the ability of the consumer to continue to fuel spending growth will become more suspect.

Mr. Latella offered a product-by-product forecast for retail real estate in 2004:

Free standing retail

"The transaction market nearly doubled last year for free standing retail, as 1031 exchange buyers completed a significant number of one-off deals. 1031 exchange is a part of the IRS tax code that allows investors to defer taxes on the purchase of a property if they buy a similar property within certain parameters.

Tenant in common transactions were also very popular in this category. Under this structure, individual investors are pooled together in an effort to acquire a major asset that they otherwise would not be able to own.

"The market will continue to stay strong, given its appeal to both small investors as well as the larger REITs that are in the net lease business," Mr. Latella said.

Power centers

Cap rates for power centers, loosely defined as open air centers with 75-85% of their tenant mix devoted to large box category killers, have stabilized and the market has peaked.

Power center transactions were very active in 2003, and probably will continue in 2004, but "the market won't be as heated," Mr. Latella said. This category is sensitive to interest rate adjustments, and Mr. Latella feels rates will rise slightly in 2004.

"It's a presidential election year, so I don't expect dramatic increases," he said. "But power centers tend to be a category that can slow up when rates increase. Currently we are seeing pricing well below 8% cap rates, a threshold generally reserved for the best properties." He notes several sales have traded in the low-to-mid 7% range.

Strip Centers

In 2003, there was a very strong appetite for good, quality neighborhood and community shopping centers. According to Real Capital Analytics, sales of strip centers surged to $17.3 billion (+22%) in 2003, from $14.1 billion in 2002.

Cap rates dropped about 75 basis points, to an average of about 8.7 percent. Investors will continue to watch closely the competitive threat Wal-Mart poses to the supermarket industry, as grocery stores tend to anchor the vast majority of the nation's strip centers.

Mr. Latella expects a slight moderation in cap rates for this segment as the market's ferocious appetite for product has driven down pricing to a level that can't be maintained. REITs are expected to be a less active buyer as the return on capital on an acquisition have fallen to such low levels, that they can achieve a better return on capital on new construction.

Regional malls

Transaction volume declined by 15.5 percent to $11.6 billion, from a record year of $13.1 billion in 2002. Cap rates, according to Cushman & Wakefield, declined by 100 basis points to 8.5 percent during 2003. Cap rates are expected to stay at record lows for dominant, top 50 assets.

"Cap rates may move up a bit for the next class of product, ("B") given their vulnerability to an increased level of tenant bankruptcies," Mr. Latella said. This year there have been bankruptcy or downsizing announcements by such retailers as Toys R Us, KB Toys, Tower Records, FAO, Inc. Eddie Bauer, and Musicland Group. Nonetheless, the market has expanded in terms of the number of active buyers. In 2003, the fastest growing segment were private buyers who in some cases have been more aggressive than the REITs.

Outlet centers

The outlet center industry was marked by continued consolidation in 2003. Notable transactions included Prime Retail being purchased and taken private by Lightstone Group in a $625 million deal and Tanger Factory Outlet Center's $491 million acquisition of Charter Oak properties. During the year, the number of outlet centers declined by 31 to 230. Industry sales have also continued to slide. According to the ICSC (International Council of Shopping Centers) comparable sales declined by 3.3 percent for the 12 months ending December 31, 2003.

"I expect continued consolidation, and a bifurcation of the market between the larger, quality operators and smaller owners," Mr. Latella said. Chelsea/Property Group and Tanger have emerged as the two major players in the industry.