Second Quarter 2019NCREIF Indices Review

August 15, 2019

Panelist Overview

Jeff Fisher

NCREIF Data, Research & Education Consultant

Mary Ludgin

Senior Managing Director, Head of Global Research, Heitman

Disclaimer

Today we will be presenting what we see in the NCREIF data, trends and changes; all comments about future expectations are the personal views of the speakers and not a reflection of a NCREIF opinion or forecast.

Overview

• Returns for all sectors up except retail

• Market value index rose again this quarter (so didn’t peak last quarter)

• Industrial still the leader of the pack although down slightly from last quarter

• Retail returns return to negative territory after a reprieve last quarter

• Cap rates manage another all time low (four quarter moving average)

• Occupancy continues near all time high

4

Returns for all asset classes well below historic levels.

Question

• What will be the best performing asset class for remainder of 2019?• A. NCREIF Leveraged Returns

• B. Farmland or Timberland

• C. S&P 500 Stocks

• D. Corporate Bonds

• E. NAREIT Index

6

-12.0%

-10.0%

-8.0%

-6.0%

-4.0%

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

2004 2006 2008 2010 2012 2014 2016 2018

Income Return Appreciation Return Total Return

NPI Property Returns

Quarterly

Chart: E-001-1907

Unusual for capital return to be less than income return this long without going negative.

NPI

ODCE Retail even more negative

Retail

Write Ups vs. Write Downs based on Market Value

Regional Malls the only negative

0%

2%

4%

6%

8%

10%

12%

14%

16%

2012 2013 2014 2015 2016 2017 2018 2019

Tota

l Ret

urn

s

NPI Index Apartment Industrial Office Retail

NPI Property Total Returns by Property Type

Annual

Chart: C-001-1907

NOI Growth: Reversal of Historical Relationships

15

Source: NCREIF; Heitman Research

Retail

Apartment

Industrial

Office

-12.0%

-10.0%

-8.0%

-6.0%

-4.0%

-2.0%

0.0%

2.0%

4.0%

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

18.0%

1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

SAME-STORE NOI TRENDS BY PROPERTY TYPEUS NCREIF PROPERTIES 2000-2019 (Q2)

Year-Over-Year % Change

Long-Term Average NOI Growth

Apartments: 3.6%Retail: 3.1%Office: 2.4%Industrial: 2.3%

Shopping Center Sales Tough Comparisons Going Into 2019

1.4%

2.1%

2.9%

4.0%3.9%

4.4%

4.2%

4.9%

4.4%4.5%4.6%

5.2%

5.7%

4.4%4.4%

3.7%

4.1%

3.7%3.9%

3.4%3.2%

2.2%

2.5%2.6%

1.8%

3.4%

2.1%

2.5%

1.9%

2.5%

1.5%1.6%

1.8%1.9%

1.5%

0.8%

3.2%

1.6%

2.8%2.7%

2.2%2.1%

2.6%2.7%

3.3%

3.9%

4.4%

4.8%

3.5%

4.2%

3.6%3.5%

5.6%

4.5%

5.4%

4.7%

3.4%

3.7%

3.1%

1.7%

2.1%

1.0%

2.4%

2.7%

1.6%

2.6%

0%

1%

2%

3%

4%

5%

6%

7%

J F MAM J J A S O N D J F MAM J J A S O N D J F MAM J J A S O N D J F MAM J J A S O N D J F MAM J J A S O N D J F MAM J

2014 2015 2016 2017 2018 '19

CENSUS BUREAU SHOPPING CENTER SALES TRENDS¹US 2014-2019 (JUN)

year-over-year % change

Long-Term Average = 3.8%

1. Excludes non-store sales, auto, gas, building materialsSource: U.S. Census Bureau; Heitman Research

16

11.0%

6.8%

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

7.0%

8.0%

9.0%

10.0%

11.0%

1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

VACANCY RATE - ALL RETAIL FORMATSU.S. 2000-2019 (Q2)

% Vacant

Retail Vacancy is Well Below Peak Levels

Source: NCREIF; Heitman Research

Despite Elevated Retail Bankruptcies

18

2019 BANKRUPTCIES & ANNOUNCED CLOSURES (% of stores)

Department Stores/

General Merchandise

-11% Shopko* (BK)

-48% Sears (BK)

-52% Kmart (BK)

-68% Barney’s* (BK)

Specialty Apparel

-100% Roberto Cavalli (BK)

-100% TopShop

-100% Dress Barn

-100% Gymboree (BK)

-29% Gap (over 2 years)

-17.5% Chico’s/White House Black Mkt

-5% Victoria’s Secret

-100% A’gaci (BK)

Others

-41% Kona Grill (BK)

-22% Z Gallerie (BK)

-100% Payless Shoes (BK)

-52% Things Remembered* (BK)

-9.2% Claire’s* (BK)

-100% Charming Charlie (BK)

*Private equity-owned

5 7

20 18

711

36 8 10 9

2015

12

0

2

4

6

8

10

12

14

16

18

20

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019

RETAILER BANKRUPTCIESUS 2006 – 2019 (AUG)

Includes retailers with more than $50 million in liabilitiesSource: The Deal, AlixPartners; Reuters, Heitman Research

But Evolution in Shopping Patterns Has Widened Gap Between Winners and Losers

19

6.1%

2.3%

45.1%

0%

5%

10%

15%

20%

25%

30%

35%

40%

45%

50%

0%

1%

2%

3%

4%

5%

6%

7%

8%

9%

10%

1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2 3 4 1 2

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 '19

Overall Vacancy (L)

Centers with less than 20% vacancy (L)

Centers with over 20% vacancy (R)

RETAIL VACANCY RATETOP 50 MARKETS 2006-2019 (Q2)

Source: CoStar; Heitman Research

Part of the Problem is Development:Retail Supply has Often Outpaced Demand

80

60

40

20

0

20

40

60

19

83

19

84

19

85

19

86

19

87

19

88

19

89

19

90

19

91

19

92

19

93

19

94

19

95

19

96

19

97

19

98

19

99

20

00

20

01

20

02

20

03

20

04

20

05

20

06

20

07

20

08

20

09

20

10

20

11

20

12

20

13

20

14

20

15

20

16

20

17

20

18

RETAIL ABSORPTION VS. COMPLETIONSTOP 50 MARKETS 1983-2018

Source: CoStar Portfolio Strategy; Heitman Research

millions of square feet

net absorption outpaced net completions

20

Source: CoStar Portfolio Strategy; Heitman Research

net completions outpaced net absorption

E-commerce Isn’t Killing Department Stores, Discounters Are

21

• The combined market share for full-price and discount department stores has held relatively steady in the 20% - 21% range since 2013 but discounters are taking a bigger piece each year

Source: Bureau of Economic Analysis, Telsey Advisory Group, Heitman Research

0.0%

5.0%

10.0%

15.0%

20.0%

25.0%

2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016E

ESTIMATED MARKET SHAREUS 2006 - 2016E

Dept. Stores Off-Price

Amazon Bought Whole Foods for a Reason: Online-only is Expensive

22

$0

$5,000

$10,000

$15,000

$20,000

$25,000

$30,000

$35,000

0

10

20

30

40

50

60

70

80

90

10

0

11

0

12

0

13

0

14

0

15

0

16

0

17

0

18

0

19

0

20

0

COST PER SALE

For illustration only

# of sales

in-store

online

Barriers to entry

online are low…

…but fixed costs

to ship each

order are high

1 “Measuring the Store of the Future” by Doug Stephens, June 20192 “For Direct-to-Consumer Brands, Scaling Isn’t Easy” by Chantal Fernandez, Business of Fashion, Nov 14, 20173 “11 Things Retailers Just Said About The Future Of The Store” by Nikki Baird, Forbes, June 26, 2018

Online customer acquisition costs are increasing

30% increase in cost-per-click on Facebook in 2018

–Merkle1

5x increase in the number of advertisers on Facebook from 2013 to 2017

–Business of Fashion2

Online advertising is the new rent

“… it’s cheaper to open a brick and mortar store than to acquire new customers online.”

– Shilpa Shah, Cuyana Co-Founder3

Innovation and Disruption are Nothing New Among Retailers

23

Nor is Change New in Physical Retail

24

Who’s Closing and Who’s Opening

25

-31%

-21%

-11%

-1%

9%

19%

1999 2004 2009 2014 2019

Co

mp

on

ents

of

Ret

urn

NPI Property Components of Return

Cash Yield NOI Growth Cap Rate Change Other Effects Total Return

NPI Property Components of ReturnAnnual

Chart: C-005-1907

Capital market not moving returns either direction.

Question

• What will the annual NPI total return be for 2019? (Current rolling annual return 6.8%)• A. Below 4%

• B. 4%-to-5%

• C. 5%-to-6%

• D. Above 6%

27

3.8%

4.3%

4.8%

5.3%

5.8%

6.3%

6.8%

7.3%

7.8%

8.3%

2004 2006 2008 2010 2012 2014 2016 2018

Cap

Rat

es

NPI Index Apartment Industrial Office Retail

NPI Property Cap Rates by Property Type

Annual

Chart: C-014-1907

Question

• What will cap rates be for the nation by the end of 2019?• A. Below 4%

• B. 4% to 4.5%

• C. 4.5% to 5%

• D. Above 5%

32

33

Cap Rate

RecessionMarket Value IndexNOI Index

3%

4%

5%

6%

7%

8%

9%

10%

1999 2004 2009 2014 2019

90

115

140

165

190

215

240

265

290

Cap

Rat

es

Mar

ket

Val

ue

and

NO

I In

dex

(199

9=10

0)NPI Property Cap Rates, NOI and Market Values

Chart: C-006-1907

New high.

Question

• When will the Market Value Index (MVI) peak for this cycle?• A. Peaked this quarter

• B. Next quarter

• C. Fourth quarter of 2019

• D. 2020 or later

34

2%

4%

6%

8%

10%

12%

14%

16%

2004 2006 2008 2010 2012 2014 2016 2018

Vac

ancy

NPI Index Apartment Industrial Office Retail

NPI Property Vacancy by Property Type

Annual

Chart: C-017-1907

Question

• What will be the best performing property sector in 2020?• A. Apartment

• B. Industrial

• C. Office

• D. Retail

41

Question

• What will impact US CRE the most for the balance of 2019 • A. Fed changing interest rates

• B. Global slowdown (China, Germany, etc.)

• C. Recession in the US

• D. Trade wars

42

Summary

• Total return for all sectors up slightly except retail

• Market value index reaches new high

• Industrial still the leader of the pack although down slightly from last quarter

• Retail returns return to negative territory – even more negative for ODCE

• Cap rates manage another all time low (four quarter moving average)

• Occupancy continues near all time high

43

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