The Canadian office market is showing improvement as a dichotomy emerges between older buildings and new trophy assets.
In its third-quarter office report, brokerage CBRE recorded net positive demand for office space in six of the 10 office markets it tracks across Canada, while Avison Young said more tenants are looking for higher-end property. Moreover, CBRE found, the national office market is on pace to record its first year of positive net absorption, or the net change in occupied space, since 2019.
Toronto led the country with 650,000 square feet more space taken than given up, with the increased occupancy split between downtown office buildings and the suburbs in the third quarter, according to CBRE. One-third of the activity was preleased new supply, with CBRE citing "healthy leasing momentum" that the company expects to continue until the end of the year.
The uptick in leasing activity has increasingly skewed toward high-quality Class A space at the cost of older space with fewer amenities. This bifurcation trend has been discussed at several commercial property shows this year including the MIPIM conference in March in Cannes, France.
"Owners of older offices have been hard-pressed to find tenants, but the uptick in office demand for quality space is a rising tide that could have broader benefits," said Marc Meehan, CBRE's managing director of national research in Canada, in a commentary. "With availability in trophy assets beginning to tighten, demand could flow to the next quality tier of buildings, especially those well-located and with in-demand amenities."
Avison Young reported that the vacancy gap between premium and Class B offices in Toronto's financial district reached a new peak in the second quarter. The real estate company said there was 9.2% gap between the vacancy rate of so-called trophy, Class A office properties and Class B office buildings. In 2019, that gap was just 2.2 percentage points.
"Historically, periods of economic uncertainty have provided tenants the opportunity to improve the quality of their space, benefiting from more available options at more tenant-friendly pricing," Avison Young said in its latest report.
CBRE said the national downtown vacancy rate increased by 30 basis points to 19.7% in the third quarter. Overall, downtown office vacancy has not decreased since the first quarter of 2020, but the national suburban vacancy rate fell by 10 basis points in the third quarter of this year.
Supply is starting to taper off, with office construction decreasing to 4.2 million square feet in the third quarter, the lowest level since 2004, the brokerage said
Of that new office space, 36.7% is pre-leased. Toronto was the only one of the 10 markets with more than 1 million square feet under construction, accounting for nearly 75% of office development activity nationwide. No new office buildings started construction in the entire country during the third quarter, according to CBRE's report.