Q4 2023: a precursor to a better 2024 for retail?

Written By:

Stephen Springham, Knight Frank

09 Feb 2024

10 minutes to read

Categories: Property Sector Retail World Regions UK

To receive this regular update straight to your inbox every Friday, subscribe here

Key Messages

• 2023 proved stronger for the retail sector than anticipated…

• …2024 will prove stronger still, albeit anything but plain sailing
• Most retail metrics showed improvement in Q4 2023
• Consumer confidence of -22pts considerably better than Q4 2022 (-42pts)
• Consumer markets buoyed by wage growth of +6.5%
• Retail sales values grew +3.9% in Q4, a deceleration from +5.3 in Q3
• Retail sales volumes down -1.4% in Q4, an improvement on Q3 (-2.1%)
• Shop price inflation reduced to 5.3% by 2023 y-e
• Only 971 stores affected by CVA/administration in 2023
• Lowest level of occupier fall-out since 2015
• Retail vacancy rates improved by -10bps in Q4 to 15.3%
• A return to retail rental growth, albeit patchy and anaemic
• Retail rents grew by a further +0.2% in Q4
• Cumulatively, retail rents grew by +0.8% in 2023FY
• Retail delivered an indicative total return of ca. 1.0% in 2023
• Significantly higher than Offices (-11.9%)
• Retail capital values declined by -3.5% in Q4 2023
• Q4 retail investment volumes of £1.3bn
• Investment volumes down QoQ but up +37% YoY
• Consumer markets to be more erratic in 2024 than credited
• Occupier markets cautiously optimistic at best
• Investment markets more tightly wedded to movements in macro-economy

2023 already feels a long time ago. We’re nearly six weeks into the New Year already, yet many of the data feeds and reads from last year are still lagging. There’s a tendency to overlook actual evidence in favour of current sentiment, which may or may not accurately reflect what is going on in the real world. Knight Frank’s Q4 2023 Retail Monitor endeavors to marry the two to take a more informed view of likely directions of travel.

What were the key takeaways from the tail end of last year? An improving economic backdrop generally in the UK made for a relatively stable quarter for the retail sector. The final quarter was characterised by improving consumer sentiment, record-low occupier fallout and a fairly steady flow of investment deals, despite ongoing debt constraints.

Growing consumer confidence, strong occupier performance over Christmas and enhanced investor trust would seem to position the sector well for a promising transition into 2024. However, volatile retail sales patterns and a weak December, coupled with a few fresh CVA concerns, were also cautionary reminders that 2024 will not be plain sailing by any means.

Consumer confidence is rising

The UK consumer moves in mysterious ways and the correlation (often non-correlation) between consumer confidence and actual retail sales continues to puzzle and perplex.

Easing inflation (CPI 4.0% vs. Dec 22: 5.2%) and a stable jobs market kept consumer markets steady in Q4 – though retail sales were weaker than expected due to the disruptive effects of Black Friday. Notably, the ONS’ release of a disappointing set of December retail sales figures lay in stark contrast to positive trading updates from retailers themselves.

Official consumer mood metrics showed improvement, culminating in a major uplift compared to the last 12 months (Dec 23: -22pts vs. Dec 22: -42 pts). Householders even came close to optimism, with personal finance outlooks up to -2pts (vs Dec 22: -29 pts). Labour market stability played a vital role: wage growth remained strong at +6.5% in the three months to November. The consumer is increasingly in buoyant mood.

But this is only partially filtering through to his/her propensity to spend. Overall Q4 retail sales grew steadily (values: +3.9%), but worryingly decelerated slightly versus Q3 (+5.3%). More encouragingly, volume declines (-1.4%) improved, as inflation receded, with Shop Price inflation at 5.3% (vs. Q1: 9.4%). Monthly analysis revealed the disruption of discounting to Christmas trading: November (values: +5.8%) exceptionally stronger than December (+2.3%). Overall, annual 2023 figures grew by an impressive +5.1% (values), surpassing the 10-year average (+3.5%) – illustrating that the consumer meltdown so widely feared did not materialise.

For much more analysis on retail sales, please refer to our earlier Retail Notes and accompanying dashboards.

https://www.knightfrank.com/research/article/2024-01-19-christmas-a-december-disaster

https://www.knightfrank.com/research/report-library/uk-retail-sales-dashboard-december-2023-10885.aspx

https://www.knightfrank.com/research/report-library/annual-uk-retail-sales-dashboard-2023-10884.aspx

December’s retail sales figures in particular provided a sobering reminder as to the volatility and fragility of retail sales, regardless of underlying consumer confidence. This disconnect has already re-manifested itself in 2024, with consumer confidence trackers such as Gfk trumpeting “the best headline score in two years”, yet retail sales trackers from the CBI and BRC painting a far less rosy picture.

The official ONS figures for January will be released next Friday (16 Feb). Expect an update on the current state of consumer markets (probably fairly downbeat), rather than a definitive direction of travel for 2024.

Tempered optimism amongst occupiers

The newsflow from retailers from the festive period was generally positive (as covered in earlier Retail Notes)

https://www.knightfrank.com/research/article/2024-01-12-christmas-positive-messaging-at-the-coalface

https://www.knightfrank.com/research/article/2024-01-05-christmas-a-melange-of-mixed-messages

The majority of retailers reported fairly robust store trading throughout Q4, with a handful increasing profit guidance expectations. However, the tone and mood of the occupier narrative rightly remains cautious, rather than overly optimistic.

The expected consumer meltdown did not materialise in 2023 – accordingly, neither did the anticipated occupier bloodbath. Indeed, the strength and resilience of the occupier pool continued to surprise on the upside. According to the Centre for Retail Research, only 971 stores in 2023 were listed as affected by administration / CVA – the lowest since 2015 (and the 3rd lowest figure since 2007). Even this figure was heavily skewed by one major casualty (Wilko’s with 400+ stores) and the 971 actually overstates the number of stores that actually closed as a result of CVA/administration.

Occupier markets are stable, any optimism cautious. But most retailers are pursuing modest expansion or ‘right-sizing’ opportunities, as opposed to full-on retrenchment.

Heightened demand for ‘destination’ locations has started to positively impact supply, leading to some rental growth in prime locations. According to MSCI, underlying retail rents grew by a further +0.2% in Q4 2023, taking rental growth cumulatively for the 12 months to the end of the year to +0.8%, albeit driven largely by retail warehouses (+1.1%) and high street retail (+0.5%) rather than shopping centres (-0.7%). Rental growth in retail remains patchy and anaemic – but it is positive growth nonetheless.

According to LDC, overall retail vacancy rates decreased -10bps in Q4 2023 to 15.3%, with -20bps improvements reported in Shopping Centres (17.7%) and Retail Parks (7.6%). Gradual improvements in occupancy costs, with the rebasing of rents and rates, has accumulated into noticeably strong demand for out-of-town space, with many in-town occupiers (e.g. Lush, Mango, ProCook) opening their first retail park stores during the quarter.

But obviously, the picture is mixed between individual operators and not all enjoyed a strong festive period. Large national multiples to issue post-Christmas profit warnings included JD Sports and Superdry. In the former case, the downgrade was fairly mild and it raised relatively few alarm bells. Not so in the case of Superdry and the future of the former darling of the high street remains unclear at time of writing. Whether it launches a CVA, undertakes a pre-pack administration or is taken private are largely moot points, as some degree of restructuring appears inevitable. This is highly likely to result in both store closures and rent reductions, the extent of which there is currently no transparency.

The outcome of Superdry’s restructuring should not be interpreted as a shape of things to come for the rest of the year, as it inevitably will be by the media. Were Superdry to launch a CVA, it would not necessarily herald a domino effect across the retail sector. Yes, occupier market conditions will improve in 2024, but they will remain tough. Some casualties are inevitable, but as in 2023, actual fall out will be fairly limited.

Retail property – more than holding its own

Retail property market metrics continue to improve. Based on MSCI’s Monthly Digests, All Retail property delivered a total return of -1.8% in the final three months of 2023 and a positive total return of +1.0% for the year as a whole. Again, not spectacular, but considerably better than other CRE use classes such as Offices (-4.1% in Q4, -11.9% in the 12 months to December). Retail capital values declined by -3.5% in the final three months of year, an improving trend on the -5.6% reported on a rolling 12 month basis. Investors remain drawn to the Retail sector’s high income returns (7.0% in the 12 months to Dec 2023) compared to other major CRE sectors (Industrial 4.9% / Offices 5.5%).

Constrained by debt markets and residual negative macro-economic sentiment, investment markets were not as strong as we would like them to be. Investment markets remain largely out of synch with occupier markets, but there is some evidence to suggest that investors’ confidence in the sector is growing.

2023 transaction volumes (£6.1bn) were down versus long-term averages (10-year: £7.3bn), but showed modest improvement on 2022 levels. Q4 (£1.3bn) saw a slight quarterly slowdown, but year-on-year increased by +37%. For much more analysis on this please refer to our H2 Retail Investment Report, “Defrosting the Deep Freeze.”

https://www.knightfrank.com/research/report-library/retail-investment-update-h2-2023-10838.aspx

Shopping Centres showed some signs of life towards the end of the year, (Q4 volumes: £437m) second only to Foodstores (£453m). Experienced investors targeted prime, destination assets, with Churchill Square in Brighton (£143m) by far the largest deal of the quarter and, indeed, the year as a whole. In total, five centres transacted with a lot size over £20m+, including Livingston Designer Outlet (£57m), Junction 32 Outlet Village, Castleford (£46m), and The Centre, Livingston (£46m). In terms of pricing, Shopping Centres yields held steady at 8.00% in Q4, while Prime High Street and Retail Warehousing softened by +25bps to 7.00% and 6.00% respectively.

Indications for 2024

2024 will generally be better than 2023, but recovery will not be universal, linear nor immediate. As ever, the macro-economy will predominate the narrative, even when it does not have a direct bearing on individual markets, or where it is clearly de-coupled. Retail definitely falls into this ‘outlier’ camp.

The macro-economy will undoubtedly improve as the year progresses. Consumer confidence will continue to rise, inflation will continue to recede, albeit very slowly. Interest rate cuts will happen at some point and investment / debt markets will respond positively to these movements. But the macro-economy is not all encompassing and there is a danger that fixations with these moving parts (e.g. the exact month when interest rates start to come down, where inflation will be come the year end) detract from the bigger picture – what is actually happening on the ground and in the retail world in particular.

It would be easy, but at the same time very lazy, to assume that retail markets will simply fall into line with an improving macro-economic backcloth generally. They didn’t when the macro-economy faltered, so there is no reason to think they will now against a more benign economic landscape.

An improving macro-economy and rising consumer confidence in tandem, but retail sales will remain erratic rather than stage a dramatic recovery. Some operational pressures on retailers will dissipate (e.g. input cost inflation) but others will arise in their place (e.g. another increase in the national minimum wage). Occupiers will remain cautious and store acquisitions will remain selective – there will not be a massive release of pent-up occupier demand. Vacancy rates will recede very slowly, rents will increase very marginally. Some retailer casualties are inevitable, but this will not lead to contagion. Investment markets are much more sensitive to macro-economics and will definitely improve in parallel. Volumes will improve as the year unfolds, but expect a flow of capital into retail rather than a deluge.

2023 was the year that was. 2024 is shaping up to be a lot better – but not without a heady mix of nuances, challenges and contradictions, just to make life interesting.