THE Covid-19 pandemic and its associated border restrictions, safe-distancing controls and health concerns have impacted many industries and businesses, with the retail sector being one of the hardest hit.

Understandably, investments in retail real estate were dampened, with activity falling from S$4.2 billion in 2019 to S$3.3 billion in 2020, and halving further to S$1.5 billion in 2021.

Thankfully, in 2022, investor interest picked up exponentially, on the back of the continued easing of border and Covid restrictions. In fact, there was a record S$8 billion worth of retail deals transacted last year, with the acquisition of Mercatus’ retail portfolio by Link real estate investment trust (Reit) standing out as the second-largest retail transaction on record, after the injection of Paragon into then-SPH Reit in 2013.

With the continued recovery in tourism arrivals and cautious optimism in consumers’ discretionary spending, Edmund Tie believes that retail real estate will still be an attractive investment in 2023. 

The case for retail real estate investments

During the pandemic years from 2020 until 2022, the investment hotspot for retail assets was the central region, which accounted for 82 per cent of all 731 tracked deals. Around nine in 10 transactions related to properties with an area of 1,300 square feet or less. A palatable quantum of S$5 million appeared to be the sweet spot; 90 per cent of transactions were priced at this level or less. 

An overwhelming 95 per cent of the transactions were strata deals, given their more palatable quantums, although en bloc deals accounted for the bulk of transaction values. Reasonably, strata retail units of lower quantums (less than S$10 million) were generally favoured by individual retail investors, while big-ticket strata or en bloc assets were acquired by family offices or institutional players with deeper pockets and retail management expertise.

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The income-generating potential of retail assets, especially those located in prime locations, will be boosted by the extension of the tourism growth story this year and beyond. Riding on China’s gradual reopening, visitor arrivals are forecast by the Singapore Tourism Board to double to 12-14 million this year, with full recovery of the tourism sector expected by next year.

One key attraction of retail real estate investments is that investors are not subjected to any additional buyer’s stamp duty or seller’s stamp duty. Furthermore, with the Urban Redevelopment Authority’s prohibition of future strata subdivision of commercial assets in selected parts of the central area, the limited strata retail investible stock would enhance the attractiveness of investing in this segment.

Key investment considerations

Location, location, location

Similar to other property types, key considerations for retail investments are the property’s locational and physical attributes. The location of an asset, be it prime or suburban, will impact its shopper catchment and spending profile. Other characteristics, such as floor level, floor plate and layout, may also affect the potential trade suitability, store visibility and footfall. 

Total returns

Given the current elevated financing costs, investing in a retail asset will likely involve negative cashflows, as interest costs outweigh rental yields. Nonetheless, well-positioned assets could achieve positive rental reversion, and help lift investment performance over time. While the era of low interest rates is likely over, we can still expect rates to normalise to a lower level at some point.

Furthermore, quality retail assets, such as established malls with good catchment or retail podiums of integrated developments, are tightly held, and such limited supply will provide room for capital appreciation. Given an adequate investment horizon, total expected returns are likely to outweigh the holding costs.

Transaction costs

Based on transactions clocked in 2020-2022, 46 per cent of the transactions were priced at S$1 million or below. About 17 per cent of transactions were priced in the S$1 million to S$1.5 million range, while some 38 per cent were priced above S$1.5 million.

As such, we expect the majority of transactions to experience minimal or no impact from Feb 14’s Budget announcement. A S$5 million sweet-spot transaction would now incur about 52 per cent more in buyer stamp duties (S$219,600 compared to S$144,600 previously).

Even for large purchases, an additional upfront transaction cost of up to 2 per cent of the purchase price translates to just 0.2 per cent per annum over a 10-year holding period. Most investors would likely take this dip in expected returns in their stride against the overall attractiveness of the sector.

Repositioning upside

The investment upside potential is higher, if investors are able to reposition the asset in the face of evolving retail trends and ever-changing consumer dynamics. Through active management, investors should aim to manage risks and improve the operational performance using their judgement and expertise. By adopting a hands-on approach, they can be on a continual lookout for repositioning strategies or other value-added opportunities. Investors who purchase individual strata units are unlikely to realistically swing the fortunes of the overall property, though.

Due diligence

Investors should conduct due diligence on the track record of (potential) tenants. Of course, one should understand that new leases would have to abide by the new Code of Conduct for Leasing of Retail Premises, which serves to guide fair tenancy practices.

Risk appetite

A clear understanding of one’s risk appetite will help establish the investment horizon, as well as characteristics such as the loan tenure. Investors who choose a short horizon should be mindful of the effect of lease decay for leasehold assets, especially when there are less than 40-50 years left on the lease. Holding power is also important, to guard against adverse scenarios, where interest rates remain elevated for longer than expected, or if retail challenges remain protracted. 

Opportune timing

The pace of tourism recovery is anticipated to quicken this year. Coupled with the strong pipeline of events, as well as new or refreshed tourism offerings, the prospects of retail investment, especially for prime retail assets in the tourism belt, are brightening. Cost-of-living pressures are likely to weigh more heavily on non-discretionary expenditures, which could limit the recovery of suburban retail spaces. 

The retail sector’s recovery remains bumpy. Recession risks are looming, and will weigh on consumer spending, while retailers continue to grapple with manpower shortages, rising costs and online competition.

As with any crisis, dislocation opportunities could present themselves as business cessations continue, but swift and decisive action is needed to capitalise on them.

While investing in retail properties is certainly no walk in the park and not for all, it is increasingly opportune to consider this segment in the endemic era. As landlords, businesses and consumers navigate the challenges ahead, we do not expect runaway retail asset prices for 2023, which should be good news for those shopping.

Fickle consumer tastes are a perennial risk, but adequate homework, a sound investment horizon and holding power, and a reasonable entry price should allow one to ride the waves of retail recovery. 

Lam Chern Woon is head of research and consulting; Hailee Fong is senior research analyst at Edmund Tie.