If you own or make your living in real estate you’re probably entering the New Year with a bit of anxiety right now with Canada’s housing market correction. The first half of 2018 was frustratingly slow for sales activity and while the Canadian Real Estate Association reported a pick up in national sales activity for the second half of the year, monthly activity levels were still below monthly levels recorded from early 2014 through to the 2017 year end. For most observers, it certainly appears as if Canada’s real estate market went through a correction in 2018.
Just like a year ago, we enter this New Year still debating about whether or some are all parts of Canada’s housing market will continue to “flat-line” or just experience a “soft-landing” before progressing through several years of anaemic growth. And, yes, there are still predictions of a market crash in 2019.
To help navigate the housing market in 2019 — and to put some perspective on the nation’s real estate correction talk — here are three things you need to know.
#1: Big analysts aren’t predicting doom and gloom anymore
Back in 2015, Moody’s Analytics economist Paul Matsiras said that Toronto and Vancouver had some of the highest housing-price inflation in the world. He, along with the editors at the Economist magazine, was sounding the alarm about overvalued housing markets in Canada.
A lot can change in a few years. In the latest Moody’s Analytics report, Director of Analytics, Andres Carbacho-Burgos, starts off his analysis by stating: “The housing market in Canada seems to have stabilized.”
Carbacho-Burgos points out that since mid-2016s all levels of government have intervened in the housing market, in an effort to slow the huge surge and run-up that was happening at that time. The measures worked. The fear now, he writes, is that these “measures to stabilize housing affordability and mortgage credit quality may prove too strong and may precipitate not just a house price correction, but also an extended decline in sales and possibly a reduction in homeownership.”
It certainly looked like the case in the first-half of 2018, but sales data for July and August indicate that home sales and house price growth started to rally, “so it is too soon to be pessimistic,” states Carbacho-Burgos.
OK, maybe this turnaround isn’t worthy enough for a ‘drop the mic’ meme, but it sure does help us reflect on how far the nation’s housing market has come since its peak in 2015/2016. It also helps put those doomsayer headlines into perspective. Of course, there would be a massive drop in sales activity, particularly in the country’s hottest markets: We just came off an incredible run and anything less would seem like a slowdown of epic proportions. But when we examine overall sales activity, we see that, on average, the country’s real estate market is in balanced territory. According to the Will Dunning, Chief Economist for the Mortgage Professionals of Canada, the sales-to-new-listings ratio (“SNLR”) was 54% in October, which is slightly above the balanced market threshold of 52% — a threshold that signals market supply and demand are in equilibrium and prices are expected to rise by 2% per year. Dunning points out that there were “wide variations across the country: the three prairie provinces plus Newfoundland and Labrador have ratios below their thresholds and there are risks of price reductions. The six other provinces have ratios above their thresholds.”
According to Carbacho-Burgos, the overall effect of policy interventions since mid-2016 to slow purchase demand worked, but there are a few important points to consider:
- “There is no serious projected house price correction.” Yup. That’s what he firmly believes going into 2019.
- “Median family income growth will have a good chance of keeping up with and even outpacing house prices in coming years, improving affordability.” This is great news for first-time buyers, the market segment that makes up the bulk of home buying in Canada.
- “The lack of a significant house price decline will prevent mortgage debt performance from deteriorating, especially after 2020, when mortgage rates level off.”
While this last point deserves some explanation (see No. 2, below), it’s good to know that at least some experts consider the Canadian real estate market to be in a corrected, yet balanced state. Like Dunning, Carbacho-Burgos points out that the corrective measures taken by governments worked, but the battle-axe of government policy is not a delicate instrument. While the successive policies did help cool super-hot Toronto and Vancouver markets, it could have a negative impact on Atlantic and Prairie provinces, “leading to a full house price correction and a perceptible drop in sales in these regions.”
#2: Barring major economic disaster, interest rates will climb
The chief aim of the Bank of Canada is to head off inflation. The secondary aim is to maintain the value of the Canadian dollar relative to the U.S. greenback. As such, just about everyone agrees: The BoC will continue to tighten short-term interest rates going into 2019 and right through to 2020.
While any BoC rate change will have an almost immediate impact on mortgage and interest rates, there will be a lag to the rest of the economy, when it comes to the impact of these rate increases. Suffice to say, five-year mortgage rates currently sit at 4.4% — almost a full percentage higher than mid-2017 rates, which sat at 3.6% — and there’s more room for mortgage rates to go higher. According to Moody’s Analytics baseline projections, mortgage rates will continue to rise “until it levels off at about 6% by late 2020.”
Of course, if the Canadian economy continues to putter — or worse goes into shock based on some event — interest rate increases could be halted, postponing eventual rate increases to well beyond 2020. Worse, a big enough economic shock could pull rates down again. According to estimates from Moody’s Analytics, a faltering Canadian economy could mean rates drop to 3.5% in 2020. On the flip side, if we experience exceptionally strong growth, BoC tightening might lead the mortgage rate to top out at slightly more than 6.6% by late 2020, writes Carbacho-Burgos.
#3: Stop watching sales activity and prices
Listen. We get it. Canadian real estate is like a bad reality TV show. You just can’t stop watching, no matter how ridiculous the unfolding drama. (Of course, let’s not assume that all aspects uncovered about our nation’s property market are ridiculous. Lack of affordability and the ability to shelter money with questionable origins are real issues that need to be addressed, among others.) But truth be told it’s time to wean yourself off the crash/no-crash debate. To start you need to stop trying to time the market and make real estate decisions that are right for your financial plan. (Wow, we’ve been declaring this message for years now, but it still needs to be said.)
We know habits are hard to break, so we suggest rather than go cold-turkey, consider following the country’s GDP and employment trends. Not as exciting, perhaps, but they’ll certainly give you great insight into what will probably happen to the nation’s housing market.
Why? Because people with safe, secure employment like to make big decisions like getting married, having kids, getting a puppy or buying a house. (Granted, not all in that order, but you get the drift.) If the economy is growing then people and businesses have money and that will translate into consumer and business investment. Cue the house buying. Obviously, another important measure to watch is the country’s employment rate. If unemployment goes up, it means businesses are retrenching and consumers are worried. That doesn’t bode well for all industries, including the real estate industry. So, a high employment rate (or low unemployment rate) is good (within reason).
So how does it look for Canada? According to the International Monetary Fund, Canada’s real GDP expanded by 3% in 2017, the highest growth rate among G7 economies for that year. Sadly, however, this growth wasn’t fueled by exports or business investments but by private consumption (Canadians buying stuff, including houses). Going forward, Real GDP growth for 2018 is expected to drop to 2.1% and decrease ever so slightly again in 2019 to 2%.
This is a concern to everyone — not just homeowners and those that make a living in real estate. It’s a concern exasperated by the continued resource sector problems Canada has been experiencing since 2014 when the price of an oil barrel plummetted.
Sure our economy is still growing but the slow rate is a bit of a concern, particularly in a country that relies so heavily on the resource sector. According to Statistics Canada, a fifth of our total economy relies on oil and other natural resources and the resource sector directly contributes 15% to Canada’s GDP and provides almost 1-million direct jobs and another 900,000 indirect jobs (as workers use their wages to buy homes, cars, go out for dinner, send money home and buy consumer goods). Turns out that after the collapse of oil barrel prices in 2014, an estimated $50 billion was removed from the country’s overall economy.
That’s when we need to examine labour market numbers. According to Statistics Canada’s Labour Force Survey (“LFS”), employment growth has been tepid, at best. As of the end of October 2018, the latest figures, the nation’s employment growth sat at just 1.1% for the year. This is slower than the population growth rate, which currently sits at 1.4%.
So, slowing GDP and lacklustre employment growth rates, eh? Doesn’t sound too cheery going into 2019. Thankfully, though, there are a few bright spots. Expected tax cuts and government spending in the U.S. will help support demand for Canadian exports — and that’s really good news. If we can continue to grow our economy, then employment growth will follow suit, as will consumer spending, particularly on high-value assets, like homes.
We need some perspective
Market’s are cyclical. Now, more than ever we know this. The fact that the real estate market peaked and is now correcting (or has corrected, depending on your point of view) shouldn’t come as a shock. Corrections happen because investors become too optimistic about a certain asset and in a frenzy keep buying the asset. Frothy activity pushes prices up, creating even more frenzy and optimism. At this point, the asset’s price point is disproportionately high when compared to its actual worth. Some people realize this and get out. This can prompt a sell-off — when investors become highly sensitive and react to the potentially bad news by selling their stake. This causes prices to fall, or correct.
In order for a market to actually go through an economic “correction,” however, either sales activity or prices must drop by at least 10%. Well, we know this has happened in the nation’s two hottest markets — Vancouver and Toronto — and arguably in just about every market in Canada. So, Canada’s housing market correction did happen in 2018. But it’s a correction that holds the possibility of “flat-line” growth, meaning real estate will return to its staid position as an alternative investment to fixed income, rather than an alternative investment to value or growth stock. This is a good thing because real estate is more than an investment. It holds the dubious responsibility of being a lifestyle choice as well a personal financial decision.