Despite pandemic and global conflict, experts predict commercial real estate to stay robust

Just as the economic road ahead seemed to be clearing with the end of the pandemic lockdowns, interest rates are climbing along with inflation, oil prices are spiking, supply chains continue to be strained and geopolitical instability is threatening to spread.

But all this is unlikely to be enough to dissuade Canadian commercial real estate investors in Canada this year, according to property services experts.

“There is much more good news than bad in the commercial market in general,” says Paul Morassutti, vice-chairman of real estate services firm CBRE Ltd.

CBRE’s just-released Canada Real Estate Market Outlook forecasts commercial real estate investment volumes could hit an all-time high of $58.5-billion in 2022, topping last year’s record $57.9-billion.

Office demand will remain strong despite predictions of continued hybrid work schedules and work anywhere policies, he says. “Debate around remote work is the shiny object everyone has been fixated on over the last two years, but I suggest it will ultimately have less effect on the market than people think.”

Most companies are not doing anything “dramatic,” he says.

“They’re testing various workspace strategies and if anyone is going to make a major change, it will be at the end of their leases, which means the transition will happen over a period of years.”

Retail remains resilient while tech sector expands

On the retail side, in the initial 18 months of the pandemic there were significant challenges and landlords had to do rental abatements. Now, even as foot traffic increases there’s still significant pressure on retail sales, says Daniel Holmes, incoming president of brokerage services in Canada for Colliers.

However, Colliers’s newly released 2022 Retail Outlook Report predicts retail vacancy rates will continue to decline, and rental rates are expected to stabilize across the country in 2022.

According to Statistics Canada, by January, Canada’s Consumer Price Index had increased by 5.1 per cent year over year and Canadian inflation surpassed 5 per cent for the first time since September, 1991.

Global supply chain bottlenecks are continuing to put upward pressure on prices. Statscan also reported that retail sales rose by 8.6 per cent in December year over year, totalling $57-billion.

“There’s no doubt that the pandemic has disrupted the business model for retailers as a whole. But as people return to office, that will help tremendously. Retailers not dependent on foot traffic have had to pick up some form of e-commerce to their business,” Mr. Holmes says. “I think we are going to see more repurposing of space. A lot more storefronts are splitting their space, with the back half being used for deliveries for e-commerce, rather than all dedicated to in-person customers.”

The technology sector will be the real market driver, Mr. Morassutti says. “The big American tech companies are all expanding in Canada because the talent they can find here is superb and it’s also easier to get skilled foreign workers into Canada than into the United States.”

Companies such as Google, Amazon and Meta are expanding their footprints in Canada, he points out. “While many of those companies put space in the U.S. up for sublease during the pandemic, there was virtually none of that in Canada. At the other end of the spectrum, startups and smaller tech companies have been expanding their space needs.”

Concerns over recession and Russia-Ukraine

“The industry is nervous about interest rates going up, but our position is moderately increasing interest rates shouldn’t be too much of a concern to the commercial real estate sector because they’ve been very well telegraphed,” says Scott Figler, senior research manager, capital markets for real estate services firm JLL.

“Our concern is that the Bank of Canada could potentially go too fast and too high with their increases and if that happens and there’s a sudden jump in interest rates, that could have real ramifications on our housing market and could tip the country into a recession,” he says.

“But our feeling for 2022 is that most fundamentals are improving and there’s a ton of capital out there that wants to own real estate assets for the yield they provide,” he says. “There’s a feeling that, especially since we’ve gone through all this uncertainty, real estate assets that provide a good yield in a safe stable market like Canada will continue to be in demand.”

Institutional investors are attracted to commercial real estate during times of volatility because inflation is built into lease contracts, he notes. “[They] are looking to increase allocations in real estate in general. So, while some are bidders looking at using debt to help finance an acquisition and may pull out due to rising interest rates, higher allocations into the sector would suggest more bids on assets. The two effects in theory could counterbalance each other.”

In the office market, there is a bifurcation happening, he cautions. “There’s a lot of talk about smart companies rethinking how the office gets used. In a competition for talent, you have to give people reasons to come to the office. If you have a modern building with amenities, you’re probably going to be fine because you will benefit from a flight to quality.”

Because of the pandemic, there has been a lot of effort by landlords to be invest in HVAC and air filtration systems and touch-free technology. “But lower-grade buildings that have poor air flow, that lack amenities and are far from transit are going to have poor performance,” Mr. Figler says.

One new looming uncertainty this year is the crisis in Ukraine, all the experts agree.

Russian capital investment in commercial assets is insignificant in terms of deals done in Canada, Mr. Figler notes. But the potential for the Ukraine situation to spread could impact economic growth and investor confidence. “That’s where the commercial property industry is vulnerable.”