e almost a historical curiosity the day of release, irrelevant for purposes of understanding where the economy is now and where it is headed. The stock market, on the other hand, is traditionally viewed as a leading economic indicator, meaning that variations in share prices predict changes in the real economy. The rapid recovery by global stock markets in the second quarter anticipated a bounce-back in the real world, even as governmental responses to the Covid-19 outbreak wrought catastrophe on economic activity and threw millions out of work. But the more positive outlook in global markets has not extended to all sectors, with energy, retail property and hospitality among those missing out. A bumpy road ahead In Australia, the chart shows how the benchmark ASX-200 was off its 52-week high by only 16 per cent at the end of August, while Australia’s largest public retail property companies were, with just one exception (BWP Trust which has big-box centres), faring much worse. The two largest companies by retail GLA – Scentre Group and Vicinity Centres – were both off their 52-week peaks by more than 40 per cent. Is the dismal outlook for retail property implied by the markets justified? In their financial reports for the period ending June 30, Scentre Group, Vicinity Centres, General Property Trust and Stockland all reported retail portfolio devaluations of around 10 per cent. That was before the second lockdown was imposed and then extended in Victoria. If the market is correct, that 10 per cent hit to portfolio values is way too little, and valuations will have to come down further. It doesn’t make for nice viewing if you are a player in the shopping centre industry, but to what extent should we be taking it as a predictor of the industry’s future? Although both landlords and retailers have made problems for themselves that need to be addressed in the coming months – and hopefully will be – much will depend on governments, both federal and state, to be proactively supporting the sector’s recovery, or at the very least getting out of the way to let recovery happen.  So far, the signs of that happening are not encouraging. Vicinity Centres and GPT are particularly affected because of their concentration of assets in Victoria. Some of the concern about the health of the retail property industry owes to the fact that the pandemic has exacerbated existing problems rather than creating new ones: It conditioned people to shop online, turbocharged e-commerce infrastructure, accelerated changes to spending priorities that don’t play to shopping centres’ strengths, and encouraged people to shop closer to home. As conditions normalise, some of these trends will be partially, but not wholly, reversed. Things might have been easier but for a problem that landlords have nurtured as lovingly as a rose garden for more than 20 years: persistently opening or maintaining too much department store and discount department store space as demand for the product was shrinking. Format obsolescence has been dogging these formats everywhere in the world. Australia was no exception, yet the problem was shrugged off while the operators of both formats propagated a phony growth story to appease their stakeholders. Landlords made a Faustian pact with them because valuers wanted to see these retailers in shopping centres even if most shoppers didn’t. Then came the pandemic. The stock market sees other problems as well. There is still overstoring in apparel specialty. The influx of global retailers that piled in after Zara opened its first Australian store in 2011 provided a temporary impetus for fashion spending and enabled landlords to do mighty expansions of their trophy centres. Now, that impetus has faded and the same global retailers are folding tents. Every retailer is scrutinising its store fleet to see where it can close unprofitable locations or secure more favourable terms. Meanwhile, many independent retailers are at the point of no return, unable to cushion themselves through a period where the public health priesthood has, unhelpfully and perhaps wrongly, ordained that their establishments are spreading grounds for the virus. The list doesn’t end there: international tourism has been crushed, with no sign that borders will be open soon. Social distancing in food courts, cinemas and gyms will reduce shopping centre income, perhaps for a long time. And it will challenge the role of shopping centres as community, social and “experiential” hubs. You can’t have a community gathering place if the community can’t gather. All of this points to downward pressure on sales, occupancy and rents in the short to medium term, and that after landlords have – according to data from the Shopping Centre Council of Australia – already handed out more than $1.6 billion in rent relief up through June 30, mainly to smaller tenants. The worsening footfall and sales throughout the pandemic and the prospects for only a slow recovery have dramatically elevated the discussion about lease terms, in particular about moving towards a flexible percentage rent system. For the shopping centre business model, that is a serious challenge because it was designed for an economy in growth mode, not for one paralysed by lockdowns, fear and social distancing.  Everyone has an opinion about how far rents have to come down from their pre-virus level, but the market has factored in anywhere from 15 to 30 per cent. So far, the conversation between the two sides – tenant and landlord – has largely been a dialogue of the deaf, which is a huge pity because they could both be making common cause to push federal and state governments to get stores and borders open, and dial down the fear tactics they’ve been using to keep people at home. The industry malaise is not just an Australian problem. Retail landlords and their tenants are facing similar issues everywhere, and stock markets overseas hold much the same view. In the US, for example, the Dow Jones US Retail Reit Index ended down 42 per cent from its 52-week high when the market closed for the Labour Day weekend on September 4. Potential for recovery The stock market is telling us that the true value of the biggest retail portfolios is far less than the most recent valuations say they are, but what is it not telling us? While the laundry list of negative stock price drivers listed above seems overwhelming, the markets underestimate the potential for recovery in 2021. They don’t, for example, account for growth in the potential tenant pool after the pandemic is over. Retail is a highly entrepreneurial business sector that attracts new players even in the most abject circumstances. Just as plant life blooms again after a forest fire, there will be a new crop of retailers looking for space to establish themselves and grow.  Although the era of massive store rollouts is probably over for most retail categories, well-located shopping centres will still find tenants far more compelling and matched to market demand than some of the tired brands that are exiting. On top of the homegrown hopefuls will be a backlog of retailers looking to grow internationally that had temporarily put their expansion plans on hold because of the pandemic. Social distancing, too, may not be the enduring feature of modern life that some believe it to be. Trends have a habit of creating their own countertrends, a backlash against themselves, and social distancing is, for a social species like humans, an eminently anti-human custom.  What this suggests is that the negative take of the markets on shopping centres is a shorter-term vision of the industry that will require upward revision. However, it is unlikely to happen before next year and will be delayed further unless landlords and retailers can get governments mobilised behind them. In the meantime, retail property companies’ stocks will stay beaten up for a good while yet. Michael Baker is a retail consultant and former head of research at the International Council of Shopping Centers: michael@mbaker-retail.com