Industrial Market Impacted by Vacancy in both New Supply & Existing Inventory
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 that are actively searching for work continues 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 they will look at a combination of employment and economic factors to determine their next policy move.
As the industrial market continued to adjust to current market conditions and demand velocity, the overall vacancy rate in the second quarter of 2024 climbed by 50 bps from last quarter to reach 3.8%. While the vacancy rate does remain below the historical five-year pre-pandemic average of 4.2%, it has climbed by 220 bps from the rate posted in the second quarter of 2023. With the exception of two smaller markets, all other Canadian markets posted a higher vacancy rate in comparison to the previous quarter, with increases ranging from 20 bps to 80 bps.
Overall vacant space climbed by additional 10 million square feet (msf) quarter-over-quarter (QOQ) to reach 71.1 msf. While vacancy arriving on the market from new construction deliveries continued to be a key driver behind the increase, multiple markets are now witnessing an increasing number of large blocks of space (i.e., in excess of 100k square feet (sf)), being vacated by occupiers from existing inventory. These larger spaces are becoming available as tenants relocate to new developments, but also as companies continue to evaluate their space requirements in the current environment. The latter has continued to have an impact on the sublet market as sublet vacancy increased to 10.3 msf this quarter and as a percentage of overall vacancy is now at 14.5%; a notable increase from the 9.6% rate posted in the second quarter of 2023.
Absorption levels plummeted this quarter to negative 5.8 msf and is the highest amount of negative absorption ever recorded in a quarter. While other Canadian markets did record negative absorption, it was the negative absorption in Montreal and Toronto that were the primary drivers. In Toronto negative absorption reached 2.9 msf while in Montreal negative absorption totaled 2.7 msf. For the overall market a notable contributing factor, which has been occurring for numerous quarters now, is the decrease in preleasing activity of speculative builds arriving to the market. This trend is particularly evident in Toronto. For example, by the end of 2021 approximately 98% of the new speculative builds that was delivered to that market over the course of the year had been preleased/leased. By the end of 2023 this percentage had declined to 55%. As discussed earlier, larger blocks of space coming on the market in higher numbers are also contributing to negative absorption as demand for these larger spaces has softened; illustrated by that fact that just over 3.5% of all new leasing transactions in 2024 across the major markets in Canada have been for spaces that were over 100k sf.
New supply arrivals deaccelerated to 4.1 msf this quarter, the lowest quarterly total in two years. While Toronto continued to have the lion’s share of deliveries at close to 1.9 msf, Vancouver, Calgary and the Kitchener/Waterloo region also had notable new supply arrive. This decrease should be relatively short lived however as 11.8 msf is set to be completed next quarter and an additional 11.1 msf in the last quarter of 2024. Currently there is 34.3 msf that remains under construction across the country and of this total, approximately 83% of that square footage is located in speculative builds. While there has been preleasing already in these projects, and more likely to happen before the building is completed, there is a very high probability vacancy rates will continue to climb based on the sheer volume of new inventory still to be delivered.
The overall average net asking rental rate continued to decline this quarter to reach $16.29 per square foot, with the majority of the major markets posting QOQ decreases. While this marks the third consecutive quarter the overall asking rate has dropped, the overall rate remains 82% higher in comparison to the rate posted in the fourth quarter of 2019. While pricing of vacancy in new builds will work to continue to keep rates elevated, that will be mitigated somewhat by vacancy arriving from existing inventory, particularly in older buildings that are not as attractive to occupiers and therefore likely to be offered at a lower price point.
