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Tuesday, March 6, 2018

Calgary retail real estate investment market remains resilient

By Kevin Morgans (Calgary)

In 2017, we witnessed another year of continued strength in the Calgary retail real estate investment market. 

Despite headlines throughout the year that cast a concerning shadow over the fundamentals of Canada’s retail market, a closer look at Calgary retail sales transaction data and, more particularly capitalization rates (cap rates), reveals quite a different story.

Even as bond yields rose through the course of 2017, most notably between June and September, cap rates for retail properties continued to compress. Whereas in mid-year 2016 cap rates were in the sub-6% range, cap rate guidance for pricing of those retail assets today would likely be 75 basis points (bps) lower. In several cases, cap rates compressed, moving in the opposite direction of bond yields, which would typically move somewhat in parallel with one another, given the bond yield’s role as a primary determinant for borrowing rates for commercial debt.

Demand for retail in Calgary and surrounding submarkets has largely been driven by local private investors in recent years, with a few notable exceptions that reveal an emerging trend of investors entering our market from Vancouver and Toronto. These two major markets have seen property demand and values escalate to ranges that, only a few years ago, would have been unthinkable. Today, Vancouver and Toronto rank as two of the most rapid price-growth investment markets in North America, over the last two to three years.

The result of the extremely competitive bidding environment to acquire investment properties in these markets has led several investors, ranging from institutions to private individuals, to reconsider Canada’s alternative major investment markets. Although many investors were hesitant on Calgary in particular and Alberta in general after the global oil-price collapse began in 2014, the hyper-competitive environments in Vancouver and Toronto are leaving few other options. Calgary has offered, and continues to offer, a substantial yield premium in comparison to these two larger markets.

In 2018, with several REITs looking to reduce exposure to retail in an effort to re-balance the property-type weightings of their portfolio, we anticipate that private investors and private equity funds will find opportunity through acquisition of recycled REIT assets. The continued stability of Calgary’s retail market, evidenced by vacancy rates remaining low and lease rates continuing to grow, show the market’s resilience against macroeconomic fluctuations. The signals of progress in Calgary’s early economic recovery include Alberta’s and Calgary’s positive GDP growth forecast, rising employment, which is now above pre-downturn levels, and country-leading retail spending data.

Looking forward, we anticipate that rising interest rates may cause a mild rise in investment cap rates, although rising demand for investment properties coupled with demand from outside investors will likely temper escalation in yields.

(Kevin Morgans is a Principal specializing in Investment Properties in Avison Young’s Calgary office.)

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