Office Market Conditions Stabilized in the Second Quarter
In its latest Labour Force Survey, Statistics Canada reported virtually no change in employment in June 2024 compared to last month. The unemployment rate however climbed by 20 basis points (bps) from May to 6.4% as growth in the working age population who are actively searching for work continued to outpace the supply of jobs. In May the Bank of Canada lowered the key interest rate by 25 bps, the first rate cut since March 2020, as the Canadian economy was showing continued signs of cooling and inflation figures from April had eased to 2.7%. However, in May the consumer price index climbed to 2.9%, with price growth in several sectors. It is currently unclear if this will be enough for the Bank of Canada to once again put a hold on any rate cuts at their next policy decision later in July, but it is more likely a combination of employment and economic factors will be looked at to determine their next policy move.
The overall office vacancy rate reached 17.0% in the second quarter of 2024, almost unchanged from last quarter. This stability was also witnessed across both the Central and Suburban areas and in all classes of space as vacancy rates had less than a 30-bps change compared to the previous quarter. Many of the Canadian markets are continuing to witness improved market conditions in their Central Class A markets as occupiers are prioritizing space in well located, quality buildings with attractive amenities and as a result are vacating less desirable product. This flight-to-quality is resulting in an increased divergence in vacancy trends between Central Class A vs. Central Class B/C with the difference in vacancy rates between the markets now at 320 bps, an increase from the 230-bps variance from one year ago.
Overall office vacant space reached 99 million square feet (msf) in the second quarter of 2024, and while this was an increase from last quarter, at 0.8% it was the lowest QOQ growth in vacant space in the past two years. The increase in overall vacant space continued to primarily be the result of direct vacancy coming on the market, as sublet vacancy declined for the fourth straight quarter and had the highest percentage decrease from a QOQ perspective since the first quarter of 2022. Currently sublet vacancy as a percentage of overall vacancy sits at 16.9%, a noteworthy decline from its peak of 21.5% in the first quarter of 2021. This decline in sublet vacancy can be attributed to a variety of factors including sublet vacancy reverting back to direct as the original lease term expires, tenants reoccupying space that had been on the sublet market, and the leasing of sublet vacancy; particularly “turn-key” space located in quality buildings.
Overall absorption rebounded strongly in the second quarter reaching 930k square feet (sf). This was in large part driven by activity in the Central Class A markets, particularly within Vancouver, as the downtown Vancouver market had 1.1 msf of new supply delivered in two buildings that were largely preleased prior to completion. Additional Canadian markets posted positive absorption this quarter, and included major cities such as Edmonton, Calgary and Toronto. Since the beginning of the pandemic, notable quarterly positive absorption in any of the Canadian markets had been largely bolstered by new supply being delivered and the subsequent occupation of those buildings. This quarter proved to be a departure from this recent historical trend as all of the markets listed above which posted positive absorption had no new supply arrive to the market this quarter. Instead, positive absorption was driven by vacancy being taken off the market, as well as tenants taking occupancy of space leased in prior quarters. This combination outpaced new vacancy arriving on the market.
Overall new supply reached 1.6 msf this quarter, almost entirely due to the 1.2 msf that was delivered in Vancouver, with an additional 921k sf forecasted to be delivered in that market before the end of 2024. While Toronto is set to have the largest building currently under construction at 461k sf delivered in its Central area before the end of the year, new supply arrivals will largely shift to the suburban area for the remainder of the year. These projects are almost all located in Vancouver, with close to 680k sf scheduled to be delivered within multiple buildings. In 2025 the focus will turn once again to the Central market as close to 3.0 msf of new supply is set to be delivered, almost entirely located either within Vancouver with seven buildings over 100k sf arriving and Toronto with the delivery of 141 Bay Street – a 1.4-msf property located in the city’s downtown market.
The overall average asking net rent remained almost unchanged for the third consecutive quarter, and currently sits at $22.29 per square foot. The majority of the Canadian markets reported similar trends with only incremental changes to overall net asking rents in comparison to the previous quarter. Rental rate growth is anticipated to be remain minimal through the remainder of the year, although 2025 may see some movement. This will be dependent on the asking rates of any vacancy in newly delivered buildings versus more aggressive pricing strategies from landlords with vacancy in existing product, particularly lower-tiered.
