Marcus & Millichap

Net-Leased Retail Research Report

National Report, 2017 Outlook

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Consumer Optimism Buoys Net-Leased Sector But Rising Interest Rates Spur Buyer Recalibration

Positive economic momentum carries into 2017, driven by confident consumers. Boosted by the resurgent consumer, the economy maintained momentum to perform admirably in 2016 following a slow start to the year. This trend will likely carry into 2017 as consistent job creation across a wide array of employment sectors provides momentum for the economy while compressing the unemployment rate. Meanwhile, tight labor markets are translating into more robust wage growth, with the latest employment report showing an annual increase in average hourly earnings of 2.8 percent. These economic trends have given way to a tremendous rise in consumer confidence, particularly following the election, with the measure at its highest level since 2000. As a result, steady economic growth will likely be supported through 2017, benefiting a wide range of single-tenant net-lease concepts that will dominate the development pipeline over the coming year.

  • Job growth remains steady, with gains averaging 195,000 positions per month over the past year. As a result, the unemployment rate fell to 4.7 percent, the lowest level since 2007.
  • Consumer Sentiment posted its highest level since 2000, with expectations also elevated. The index is 11.9 percent above the average reading since the survey began.
  • Core retail sales vaulted 5.7 percent year over year in February, highlighting the strength of consumers. Lead growth categories include e-commerce, food and drink establishments, and health and personal care stores.

Rising interest rates spark investor recalibration. The postelection interest rate surge forced many investors to reconsider their strategies, though the limited use of leverage by net-leased investors tempered the pullback in transactions. Still, the pronounced downward pressure on net-leased asset yields during the cycle has flattened in response to higher interest rates. The popularity of these assets, particularly among investors exchanging out of more-management-intensive assets, will minimize any upward pressure on cap rates. Properties in good locations in major metros backed by strong credit and long lease terms remain in demand, though declining velocity in other property sectors could reduce exchanges. One variable of particular consideration for net-leased assets will be the future of the section 1031 tax-deferred exchange, with activity potentially increasing over the coming year due to uncertainty regarding potential changes to the statute. The scrutiny of this provision by Capitol Hill amid a broader tax reform plan is raising concerns among investors and developers, but little guidance on the future of this tax provision has yet emerged.

  • Net-leased properties recorded a 3.9 percent advance in the average asking rent last year, more than doubling the pace of multi-tenant shopping centers over the same period.
  • Asking rents in net-leased properties are less than 2 percent below the pre-crisis peak, averaging $19.62 per square foot nationwide
  • Over the past three years, development has averaged 44 million square feet, while net absorption has averaged 66 million, providing a strong tailwind to the segment.

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