Navigating Economic Uncertainty with a Data-Driven Tenant Strategy

As economic uncertainty continues, tenant selection has become a critical factor in determining investment success. Striking the right balance between yield and security requires a deeper evaluation of tenant creditworthiness—one that goes beyond traditional credit ratings. Investors must assess financial stability, market position, and economic trends to build resilient portfolios and ensure long-term returns.

A Holistic Approach to Tenant Creditworthiness

Traditional credit ratings provide a baseline for assessing financial health, but a more comprehensive approach is essential. Savvy investors today analyze financial statements, industry positioning, and economic conditions in the tenant’s operating regions to gain a clearer picture of potential risk.

For example, despite economic pressures in early 2024, the net lease retail market demonstrated resilience. Fundamentals remained stable, and occupancy rates were high. However, sales volume declined by 25% year-over-year due to elevated borrowing costs, totaling $6 billion.1 This underscores the importance of looking beyond credit ratings to understand a tenant’s ability to navigate macroeconomic turbulence.

Industry positioning is another key factor. Some sectors, such as healthcare and essential retail, tend to perform well even in downturns, while industries like casual dining and specialty retail are more vulnerable to shifting consumer trends.2 Geographic location also plays a role—regions experiencing strong population growth and economic expansion offer a more stable environment for tenants. Investors who consider these broader factors gain deeper insights into risk exposure beyond what traditional credit ratings alone can provide.

Evaluating Tenant Profiles: Risks and Rewards

The scale and financial strength of a tenant significantly impact an investor’s risk-return profile. Each tenant type presents distinct opportunities and challenges:

• National Tenants: Large, well-capitalized brands with extensive geographic footprints generally offer lower risk and predictable income. Many hold investment-grade credit ratings, making them attractive for investors prioritizing stability. However, properties leased to national tenants often come with higher acquisition costs and lower cap rates.3
• Regional Tenants: These businesses operate within specific geographic areas and may present higher-yield opportunities due to their perceived increased risk. While they may lack the financial backing of national brands, well-established regional businesses with loyal customer bases can provide stable cash flow. However, financial strength varies widely, necessitating thorough due diligence.
• Local Tenants: Small businesses and community-based retailers often offer higher cap rates but come with greater default risk. Recent market trends, including limited retail space and rising rents, have made landlords favor national chains over local businesses due to their financial security (Wall Street Journal). While local tenants can bring unique value and higher returns, investors must carefully weigh the potential for volatility.

Conclusion: A Data-Driven Investment Strategy

A thoughtful, data-driven approach to tenant selection is essential in today’s dynamic market. By going beyond credit ratings to assess financial strength, industry trends, and regional economic conditions, investors can make informed decisions that align with their risk tolerance and investment strategy. Working with industry professionals and leveraging market insights will help ensure portfolio resilience and profitability in an evolving economic landscape.

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Sources:

1. Colliers
2. B+E
3. CST Properties