CANUCK CONSENSUS: Late 3rd Period for Canadian Housing? 

March 6, 2014

The calls for some sort of retrenchment, correction, crash of the Canadian housing market are growing louder. The latest “home wrecker” as labelled by the Globe and Mail is Pimco, the world’s largest bond fund. According to Canadian manager, Ed Devlin, his firm is calling for a slowdown this year which will be triggered by, “higher funding costs, tighter credit and slightly higher mortgage rates.”

Here are some other talking heads who are having a bad case of the worries about Canadian real estate:

Nouriel Roubini, aka Doctor Doom, told a Toronto audience that housing has “signs of frothiness, if not an outright bubble.” But he stopped short of forecasting a Canadian crash, settling for a “meaningful correction.”

David Madani, of Capital Economics has been warning since 2011, that Canada is headed for a, “prolonged and painful housing slump that will see prices drop 25 percent over the next few years.

Goldman Sachs since October of last year has made a call warning of a, “sharp fall in housing prices with some areas of the country showing signs of overbuilding and ultra-low interest rates are taking a toll on the property market.” Goldman warned, “…what goes up can keep going up, but then tends to come down”

Finally, The Economist in their piece, “Look Out Below” put it on the table for consumption that the Canadian market is in a bubble situation much like the US was in 2007.

All kinds of indicators are there to point to some element of a pull-back:

 

  • In uber-hot Toronto, 173 sky-scrapers are being built, the most in North America. New York is second with 96.
  • Affordability: Back in 1997, the average house price in Canada of $154,620 was about 4.9 times the average pretax annual income ($31,484) of an individual with a full-time job. For the year through July 31 2013, the average price of $379,725 puts houses at about 7.8 times income. ($48,497, all figures in current dollars).
  • In the past 17 years, incomes have risen by an average annual rate of 2.6 per cent, while house prices have gone up 5.4 per cent. In other words, house prices have more than doubled over that period, while incomes are up by just a bit more than half. In Vancouver alone, the ratio of home prices to incomes is the highest in the English-speaking world.
  • Finally, the Canadian debt-to-income ratio has soared to a record 164%, above levels experienced in the US before the financial crisis.

 

The main drivers fueling this behaviour are ultra-low interest rates and lack of supply. Affordability may be driving supply as people realize yes you can sell your house and double your money, but where are you going to live after? It becomes a vicious circle. Despite the growing consensus calling for a pull-back in housing, as long as these elements are in play, and the music plays on, just like the stock market, it wouldn’t be much of a surprise to see things continue to trend up as long as the music is playing. Another element that could bring this story to an abrupt end are jobs, and if a meaningful number of people start seeing their cash flows shrink, that may be enough to take the trend in an opposite section.