More than 33,000 shopping center owners, developers, brokers, consultants, etc. descended upon the International Council of Shopping Centers 2013 RECon convention in Las Vegas last month, and we thought it would be timely to give a mid-year assessment about retail investment activity in the very hectic NNN 1031 (triple net lease) sector.

As the stock market closes at record levels above 15,000 and investors grow nervous about the prospects of a market correction, real estate continues to be an attractive investment alternative. NNN leased investments are a very popular vehicle for this capital. Historically there has been plenty of this type of product available and it provides investors with relative safety and increasing rental yields over the long-term.

We foresee interest rates remaining relatively low for the near term as the Federal Government wrestles with historic debt levels. This will push more private capital out of the banks and into real estate as investors seek higher yields.

Below are some key questions that many clients ask us to evaluate on a regular basis:

>> Is The Asset a Single Purpose Building?

In the push to find a suitable 1031 property, many investors give little thought to the long-term suitability of the building for re-tenanting purposes. For example, a new Bridgestone Firestone NNN investment is a building that is very specifically designed to accommodate an automotive business operation. Hydraulic lifts and multiple bay doors make for a very difficult renovation if the building ever needs recycled. On the flip-side, remember all of those Blockbuster Video buildings? They were perfect for new tenants like Chipotle, Verizon, Vitamin Shoppe, Five Guys Burgers and Mattress Firm. In general, the more vanilla shell or generic the building, the more safety when it comes to reuse down the road.

>> What is the Best Product Type?

Ground-leases. Single-tenant assets. Multi-tenant buildings. Which of these has the best outlook for a long-term investor? The answer is that it depends. Investors with less sophistication are going to be much more comfortable owning a long-term ground lease where in the event of a tenant default, the investor stands to inherit a building from the transaction. Single-tenant and multi-tenant deals allow some tax advantages relating to depreciation that are favorable for certain investors. While multi-tenant buildings probably require a more sophisticated investor to manage, they provide more safety in that they are not dependent on an income stream from a single user. If Supercuts closes in a 3-tenant building, there’s a strong likelihood of re-tenanting the building in short-order with the right leasing advisors.

>> How Creditworthy is the Tenant?

Remember when a NNN investment with the United States Postal Service was one of the safest investments around? The financial tumult of late 2008 and early 2009 surely taught us that what can be a credit tenant today could very likely not be a credit tenant in the future. Just ask some landlords that got caught owning a Washington Mutual NNN investment only to have the lease terminated in the government-arranged takeover of Washington Mutual by JP Morgan Chase. Some investors ended up with a vacant bank building with a drive-through with no rental income and a long-term loan to service. Washington Mutual was seen as bulletproof and was the darling of 1031’s earlier in the decade. There are only a handful of A-rated retailers in the United States. The speed at which technology and hand-held devices is changing the retail landscape will surely change the creditworthiness of a tenant.

>> Why are the NNN 1031 markets so competitive today?

Certainly the NNN 1031 market has changed very significantly over the past cycle. What used to be a buyers’ market full of affluent families, doctors, dentists and lawyers is now full of private-capital buyers, institutional investors and publicly-traded REIT’s. Large buyers like Cole Capital, American Realty Capital, NNN REIT, STORE Capital and others have raised enormous amounts of capital in order to allow investors to place funds in commercial real estate without the risk of taking title to the properties themselves. This model has created the ability for an investor to stay much more liquid than purchasing a McDonald’s where the capital is parked for decades. Look for this trend to continue as Wall Street continues to deploy capital into these markets and the markets become more efficient.

>> Why is 1031 Exchange product so scarce?

A significantly increased buyer pool has created a shortage of NNN 1031 product nationally. A colleague of mine is currently working on more than 20 different 1031 requirements with clients where they have been unable to find a suitable replacement property. This has caused buyers to increase their offering prices, pushing capitalization rates to near all-time lows. Plentiful inexpensive long-term debt has further fueled this phenomenon. As this trend continues, look for investors to pursue slightly more risk to achieve higher yields.

Darren Pitts is a widely recognized and respected expert in the retail real estate industry. With more than 18 years of experience as an award-winning, elite performer and Senior Vice President at both CBRE and Staubach Retail, he has streamlined his multi-market knowledge across the West, primarily focusing on big-box clients like Lowe’s Home Improvement Warehouse, JC Penney, Lifetime Fitness, and others. He was involved in over 15 investment transactions in 2012 with a total consideration in excess of $75M. Pitts was instrumental in leading and executing a 60 store rollout of CVS as well as implementing an expansion program of more than 30 branches with JP Morgan Chase. He is particularly known for his ability to identify invisible real estate and accelerate a client’s speed to market.