Last week, the Bank of Canada stated what commercial real estate statistics have suggested for some time – a slower economic growth trajectory has taken hold and expectations need to be adjusted accordingly. CBRE Limited’s National Office and Industrial First Quarter 2014 Statistical Summary indicates that office leasing continues at a modest pace and is likely the new norm. Industrial markets, on the other hand, are flourishing despite a slow recovery in manufacturing.
“With solid GDP numbers, an uptick in the RealPAC sentiment index and improving hiring intentions, one might have expected more office leasing this quarter,” said John O’Bryan, Chairman of CBRE Limited. “It’s normal for there to be a lag between good news and business investment, but job growth is the basis for real estate demand and until the economy is creating more jobs on a consistent basis, the current pace of office leasing is unlikely to change.”
On average, 5,000 jobs have been created per month since mid-2013, compared to 15,000 jobs per month normally. This partially explains why more office space, 1.5 million square feet was returned to the market than was leased across the country in the first quarter of 2014. This is the fifth consecutive quarter of tepid demand for office space in existing buildings. The national overall office vacancy rate rose 60 basis points (bps) this quarter to 10.3 per cent, which is above 10.0 per cent for the first time since the second quarter of 2010 and is the highest national vacancy rate since the third quarter of 2005. Six Canadian cities – Calgary, Edmonton, Winnipeg, London, Montreal and Halifax – now have overall office vacancy rates above 10.0 per cent. The remaining major cities are close behind and are poised to cross that threshold.
In 2013, suburban office markets had experienced more robust demand; however, more than 1.0 million square feet of office space was returned to the market in the suburbs this quarter. The national suburban vacancy rate rose 90 bps this quarter to 13.0 per cent. Even the downtown Class A market, which has been the beneficiary of a recent flight-to-quality, is experiencing soft demand. As new office towers get closer to completion and hive off leasing activity from existing buildings, the overall Class A vacancy has risen from a low of 4.7 per cent in the third quarter of 2012 to 7.0 per cent this quarter.
“It’s important to remember that Canada has had very low office vacancy rates compared to almost any other country. Even at current levels, the Canadian office market is only now coming into balance. This is good news for tenants who will have more leverage in lease negotiations. In most markets, landlords will continue to have the upper hand when it comes to quality office space,” said Ross Moore, Director of Research for CBRE Limited. “The trends are now well-established and it appears that the rebound in economic growth and leasing activity that followed the recession were outliers. The current pace is likely much closer to the new norm. ”
In contrast, the industrial market continues to tighten as leasing outpaces new construction. The overall national industrial availability rate fell 20 bps quarter-over-quarter to 5.6 per cent, and is now at pre-recession levels. The strength of the overall market is reflected by the fact that the average industrial availability rate is almost identical in Western and Eastern Canada despite their different economic characteristics. Across the country, industrial markets continue to benefit from retailers setting up new distribution networks.
At $6.00 per square foot, the national average industrial rental rate remains just pennies below the record high of $6.02 per square foot that was logged in the third quarter of 2013. Rental rates hit $10.83 per square foot in Edmonton, which is a new record. Toronto, Canada’s largest industrial market, has benefited from a flourishing logistics sector. The vacancy rate in Toronto is the lowest in the country at 2.3 per cent, which has spurred rental rates to climb to $5.20 per square foot in the area, up 13.3 per cent from the recessionary low and approaching an all-time high.
“The only discrepancy in the industrial market is between distribution hubs and areas servicing the oil and gas sector, which are booming, while manufacturing markets like London, Ontario continue to have elevated amounts of available space,” said Moore. “The latest manufacturing sales data showed a robust 1.5 per cent increase in January, building on a positive trend that spans the last seven months. The decline of the Canadian dollar should provide manufacturing markets with an additional boost.”