The key issue facing the retail property sector is arguably the financial condition of the consumer.
Online retail and retail space affordability challenges are also recorded by FNB survey respondents as “noteworthy” factors, says the bank’s property economist John Loos.
He says over the past 20 years (Q1 1999-Q1 2019), the consumer cumulatively “out-performed the economy” and this assisted the retail property market to outperform other major property sectors.
While the size of the real economy grew by 69.3% over these 20 years, real household sector disposable income increased by 81.4% and real household sector consumption expenditure by 85.5%.
“The strong performance of the consumer over many years was key to retail property’s outperformance of other major property sectors. Consumer performance was driven by sharp interest rate reduction post-1998, from a peak prime rate of 25.5% in that year. In addition, early last decade effective personal tax rates were being reduced.”
He says retailers were also relying on a steady decline in household savings rates - at least for the first 10 years of the period up until 2008.
“Times were good, household net wealth was growing due, to strong asset price growth pre-2008, and consumer confidence was high. But that consumer environment has changed significantly in more recent years and we believe financial pressures on the consumer, along with their change in sentiment, are the key near-term negatives for retail property performance.”
While much has been made of the challenge to retail from online shopping, a significantly higher percentage of FNB Property Broker Survey respondents (28%) indicated the poor state of the economy, and therefore the consumer, was a key factor in driving their near-term expectations for retail property market activity, Loos says. Rental affordability was cited as a challenge by 22% of respondents and the online threat by 13%.
“Therefore, currently, the state of the consumer’s confidence and finances arguably deserves more concern.
“Retail property’s outperformance over other property sectors was driven by consumption expenditure growth, and thus retail and wholesale GDP growth, that outperformed industrial property-related manufacturing growth and office-related finance, real estate and business services sector employment growth.”
But it appears this out-performance of the consumer is unlikely to continue and it is more than just about the direct impact of a slowing economy on consumer finances.
“It is also about consumers carrying the cost of deteriorating government finances and a possible change in sentiment leading to a higher savings rate.”
Loos says major sources of pressure on consumer spending and retail include:
Stagnant economic growth
The greatest influence on consumer spend is household disposable income and its growth rate, with households generally using the bulk of their disposable income for consumption, and leaving very little for saving and investment. Household disposable income growth, in turn, largely follows the direction of GDP.
Rising effective tax rates
The indirect impact of the weak economy is weak government tax revenue growth, with the government’s approach to the problem being to increase effective tax rates, Loos says.
Most notably, this affects personal income tax, through a combination of higher marginal tax brackets and not fully adjusting for wage inflation tax bracket creep.
A potential rise in the savings rate
Retail could potentially be further constrained by an increase in consumer caution and the savings rate.
“We expect a response to weak asset price growth curbing net wealth could be for households to lift the savings rate to compensate. In addition, poor economic news and weak employment growth contribute to greater concern regarding their financial future and this too could lead to an increase in the savings rate.”