Despite ongoing struggles in the office market, Canada's commercial real estate sector is poised to see an "upswing in demand" as strong industrial and retail markets drive growth.

RE/MAX Canada's 2023 Commercial Property Report, released on Thursday, details the "positive indicators" that emerged in the sector in Q1, even as investment activity remained cautious.

Q1 2023 marked the return of real estate investment trusts (REITs) to the market, which RE/MAX said is driving demand for industrial, multi-family, retail, and, to a lesser degree, office space, across Canada.

"I think the outlook certainly looks good, particularly when we look at industrial warehousing and, office is going to sort itself out," Elton Ash, Executive Vice President of RE/MAX Canada, told STOREYS.

"The jury is still out, my crystal ball is still foggy, but there is a sense that a recession may have been dodged. From a long-term point of view, things are looking positive. There is an overall confidence in the Canadian financial sector."

The "sweetheart investment," as denoted by RE/MAX Canada President Christopher Alexander, was industrial, which outperformed nearly every other asset class and saw all markets report strong sales and leasing activity.

With property and lease values on the rise, investors and end users in British Columbia and Ontario began to look to other provinces for affordable distribution and warehousing facilities. As such, industrial sales have risen in a number of markets, including Edmonton, Calgary, and Halifax.

Although demand has softened in most markets from the peak levels seen in 2022, industrial inventory remains "extraordinarily low," adding increased pressure on prices.

Despite the growth of online sales throughout the pandemic, the retail sector was "surprisingly robust," with nearly 92% of markets reporting solid activity in shopping centres and storefronts. As a result, landlords are "pouring" investment dollars into major shopping malls.

There is also increasing interest in shared live-work-shop spaces, with the number of residential applications on commercially zoned properties on the rise across Canada.

Meanwhile, the office sector, which Alexander called the "most lacklustre segment," continued to struggle as hybrid work models persisted. In an effort to reduce costs, some companies are looking to reduce their physical footprint, while others are seeking to create social spaces in the hopes of enticing employees back to their desks.

With demand dwindling, there is growing interest in repurposing office space -- particularly Class B and C buildings -- into residential housing. In what may be the "key to healthy, vibrant downtown cores," 50% of markets reported conversion activity in the segment.

"Commercial office markets are experiencing a transformational shift in the aftermath of the pandemic," Alexander said.

"The retrofit and renovation activity not only brings desperately needed residential product online, but it also supports the surrounding retail shops and restaurants, transit systems, and the overall health of our downtown neighbourhoods."

The report points to a plan currently underway in Calgary, which provides a $75 psf subsidy to developers for converting office space to residential. To date, 10 buildings have been approved under the Downtown Calgary Development Incentive Plan, which will create more than 1,200 new homes.

However, red tape, in the form of zoning amendments, applications, and approvals, is a significant setback to conversions in many cities. Alongside development fees, red tape has also been a barrier in "all types of new construction."

"All three levels of government need to come together to look at an overall real estate strategy, and figure out how we can speed up these commercial conversions," Ash said. "That product is just sitting there, while the housing stock reaches critical levels across Canada. Even from a landlord and development perspective, let's get some ROI."