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Retail in Europe - Demand focused on prime locations

With the slowdown in consumer spending the outlook for retail has become more challenging. Nevertheless, the prime segment holds up well in terms of both footfall and turnover. Prime rents have mainly risen in 2011. Retail has maintained its attractiveness for investors thanks to its characteristics as a more secure asset in the current uncertain economic environment.

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Macroeconomic context
The Eurozone recovery came to a halt in Q2, with a mere 0.2% expansion in economic activity relative to the previous quarter. This follows the signifi cant quarterly expansion recorded in Q1. Most importantly the weak economic activity has become broadly based in terms of sectors and countries; the core economies of Germany, France and the UK also slowed significantly, recording growths of 0.1%, 0.0% and 0.2% respectively in Q2 2011.

At the heart of this was a sharp fall in business and consumer confidence on the outlook for the global economy; amidst worsening public sector debt. Although European leaders have now agreed on a measure that it is hoped will stem the worsening public debt positions, its impact on confidence is now well entrained. In the UK consumer confidence has now fallen to its lowest point in two and a half years.

Declining confidence, rising unemployment and weak real wage growth are all now contriving to depress consumer spending across Europe. In France and Germany household demand fell by 0.6% and 0.7% respectively, despite improving unemployment rate and moderate inflationary pressure. But for consumer demand, sensitive countries, such as the UK and Spain consumer spending fell by 0.5% and 0.2%, respectively. Nonetheless, with falling employment and declining real wages, particularly in the UK, the near term outlook for consumer spending in these economies remains weak.

Indeed the outlook for the European economies over the next three quarters remains fragile. As such, BNP Paribas Real Estate expects GDP growth in Europe to be significantly lower in 2011 (+1.5%) and 2012 (+0.7%) than had been anticipated.

In prime retail markets, strong occupier demand from international retailers expanding in key European cities, combined with a shortage of supply are pushing rents higher. Central London is recording the fastest rental growth, prompted by international retailers selecting the capital as their first location for overseas expansion. In Germany, in the Big Six1 cities, high-street prime rents increased by 5% on average in the first half of 2011 compared to the same period last year. In Spain, the occupier market is still tough and experienced continued drop in rents in 2011. European retail investment has been steadily increasing since early 2009 and investor interest is expected to remain significant for retail, as a defensive asset in the current uncertain macroeconomic context.

Although the UK remained the leading retail investment market in Q3 2011, Germany has recorded the strongest growth in retail investment volume in 2011 so far. In Milan, thanks to some sizeable transactions, retail investment grew sharply on a rolling year basis. Globally, due to strong demand for prime retail assets, yields continued to drop slightly in 2011 and are currently stabilising in all markets.

Strong demand from international retailers
Consumer outlook has worsened across the Euro area in Q3 2011. Retail sales are currently under last year’s levels in the 5 major European countries, with Spain still recording negative annual growth. Despite the uncertain economic environment, demand in the prime high-street retail segment is resilient and remains high thanks to the activity of foreign retailers. Indeed, especially fashion retailers keep expanding in A-locations where footfall is the highest. Therefore, prime rents either increased further in the fi rst half of 2011 or stabilised at high levels.

In the UK, following the adoption of fiscal austerity measures, the retail market has been impacted since the previous year. Due to higher inflation, household spending has been reduced significantly in 2011. In the retail market, overall vacancy rate has finally stabilised but remains at high levels, above 14%. Prime rents have been unchanged in 2011 so far except in Central London, where foreign retailer demand pushed the rent up to € 8,900/m²/year which represents an almost 30% annual rental growth. Central London’s high-street retail remains clearly on a different path compared to the rest of the UK and confirms its position as main destination for international retailers.

In Germany, the retail market remained dynamic with several new openings and expansions from both domestic and foreign retailers. Its attractiveness is due to the good economic conditions reflected in the strength of consumer confidence. Due to high demand and limited supply, rents in A-locations continued to increase by 5% on average over Q3 2010, the strongest rental growth being recorded in Frankfurt (+8%). With € 3,900/m²/year, Munich remains the most expensive retail market and was the only city to record a further increase in rents in Q3 2011. As economic prospects point to a sharp slowdown in activity, rents are likely to stabilise by the end of the year.