The retail commercial real estate (CRE) sector is facing profound shifts in 2024 as a combination of evolving consumer preferences, economic headwinds, and structural challenges continue to reshape the landscape. The wave of store closures and bankruptcies hitting prominent retailers is leaving investors and property owners to rethink the long-term future of brick-and-mortar spaces. As eCommerce thrives and economic pressures bear down on the average American consumer, understanding the nuances of the retail market has never been more critical for investors seeking stable returns in CRE.
A Sector Under Pressure: Retail Bankruptcies and Store Closures
Retail bankruptcies and store closures have accelerated in 2024, with a sharp focus on home improvement retailers and discount chains. Among the most significant names are Big Lots, LL Flooring (formerly Lumber Liquidators), and Conn's HomePlus, each of which has filed for bankruptcy and announced sweeping store closures.
Big Lots, a discount retailer that has long been a staple in communities across the U.S., is undergoing a massive downsizing, with plans to close 550 stores—nearly 40% of its locations. Meanwhile, LL Flooring, specializing in hard-surface flooring, is shutting down over 200 stores following a Chapter 11 filing, and Conn's HomePlus, a longstanding furniture and electronics retailer, has initiated the closure of all its stores after grappling with poor financial performance.
These closures are more than just individual business failures; they are symptomatic of deeper problems within the retail sector. As more retailers shut their doors, vacant spaces in shopping centers and malls lead to cascading effects. Anchor stores—those large, recognizable chains that draw in foot traffic—are critical to the overall health of retail complexes. When they close, smaller tenants in the vicinity often experience drops in sales, creating a domino effect that can lower occupancy rates and force property owners to offer concessions or lower rents to attract new tenants.
CMBS Market and Special Servicing Rate Increases
From an investment standpoint, these closures have profound implications for the retail commercial mortgage-backed securities (CMBS) market. While the overall delinquency rate for retail CMBS has remained relatively stable in 2024, the special servicing rate has surged. As of now, the CMBS retail special servicing rate sits at 10.92%, a steep rise of over 150 basis points, and only trails the struggling office sector. This uptick is an early warning signal for investors, suggesting that many retail properties are struggling to meet their loan obligations, especially as store closures and broken leases hurt operating income.
Since many of the struggling retailers—Big Lots, LL Flooring, Conn's, and others—are tenants in CMBS collateral properties, the impact of these closures on loan performance is likely to grow in the coming quarters. The reduction in operating income for landlords, coupled with rising vacancies, could lead to further delinquencies and special servicing requirements.
For retail investors, this data indicates that caution is warranted, particularly in assets heavily reliant on tenants in vulnerable retail categories. The challenge for investors now is twofold: to assess the potential fallout of further closures and to identify which properties or submarkets may have the resilience to withstand these shifts.
The Struggles of Discount Chains and Home Improvement Retailers
The financial troubles of Big Lots, LL Flooring, and Conn’s HomePlus are particularly telling, as these retailers cater to mid-to-low-income consumers. This demographic has been hit hard by economic challenges in recent years.
Big Lots, for example, is known for offering heavily discounted goods, yet it has struggled to compete with the growing dominance of eCommerce platforms, which offer similar products with the added convenience of online shopping and home delivery. The company's decision to shutter 550 stores is a reflection of both changing consumer preferences and weakening demand from the middle-class segment, which has been squeezed by inflation, rising interest rates, and stagnant wage growth.
Similarly, LL Flooring’s bankruptcy points to challenges home improvement retailers face in the wake of post-pandemic economic shifts. While home improvement surged during the COVID-19 lockdowns, the subsequent rise in mortgage rates—peaking in October 2023—has caused a slowdown in housing market activity, reducing the demand for home improvement products. In this context, the closure of LL Flooring’s stores is indicative of broader struggles faced by retailers that cater to homeowners.
For retail real estate investors, understanding these dynamics is critical. Properties anchored by discount chains or home improvement retailers may face heightened vacancy risks as economic pressures continue to weigh on the spending power of their core consumer base.
Impact on CRE Investments: A Shift in Retail Strategy?
The closures of large retailers and the resulting vacancies present significant challenges for landlords. Empty anchor stores can diminish the appeal of an entire shopping center, making it harder to attract new tenants. Investors in these properties must grapple with declining occupancy rates and the potential need to offer lower rents to new tenants in order to fill spaces. This, in turn, reduces the overall value of the property, posing a risk to both equity investors and CMBS holders.
Beyond the immediate vacancy concerns, the performance of discount and home improvement retailers is also a barometer of the financial strain on the average American consumer. As inflation eats into disposable income and rising interest rates deter major purchases like homes, mid-to-low-income consumers are cutting back on discretionary spending. This not only affects retailers in these segments but also points to broader macroeconomic risks that could impact the overall retail sector.
The Future of Retail: Transformation or Decline?
Looking ahead, the future of the retail sector is uncertain. The rise of eCommerce continues to challenge brick-and-mortar retailers, particularly in segments where convenience, pricing, and delivery speed are critical factors. Many retailers are embracing omnichannel strategies—blending online and physical store experiences to meet consumer demands. However, not all retailers are equipped to make this transition, particularly in an environment of rising costs and tighter margins.
For investors, this presents both risks and opportunities. While some retail properties may continue to struggle, others could benefit from a transformation in how retail space is used. Mixed-use developments, which combine retail with residential, office, or entertainment spaces, are becoming increasingly popular as a way to revitalize shopping centers and malls. Additionally, some retail spaces are being repurposed as logistics hubs to support the growing demand for online shopping, reflecting the broader shift in consumer behavior.
Investors must be vigilant as the retail real estate sector faces mounting challenges. Store closures, rising CMBS special servicing rates, and changing consumer habits all point to a sector in transition. While the challenges are significant, they also present opportunities for those willing to adapt. Investors who can identify properties in resilient submarkets, invest in mixed-use developments, or repurpose retail spaces for new uses may find attractive opportunities amid the turmoil. The retail landscape is evolving, and with it, so must the strategies of savvy real estate investors.
Comments