Canada's Housing Bubble

Analysis of the real estate bubble in Canada --

Bubble? What bubble? Print E-mail

Feb 15, 2012 Jay Bryan Postmedia News

While many have been warning for more than a year that we should brace ourselves for the collapse of Canada's housing ``bubble,'' a few more sober analysts have pointed out that our market's modest overvaluation is far from being a bubble, which means that there's no reason to expect a crash.

As might perhaps have been expected in a reliably dull place like Canada, it looks more and more as if this more boring scenario is the correct one. That's hard on the reputations of would-be prophets of doom, but excellent news for everyone else.

At a time when job growth in Canada is throttling back as consumer spending slows, we're going through a delicate transition that could be badly derailed if there were a hard landing in real-estate markets.

While we're now getting a growing boost from exports to the thawing U.S. economy, the slowdown in consumer spending on housing needs to be gradual if Canada's growth is to avoid a shock. Happily, this is pretty much what seems to be happening.

Wednesday's report on January home sales across Canada showed that a slowing of price gains that began last summer is still firmly entrenched, while the number of home sales dropped by a 4.5 per cent in January.

A few cities, including Montreal and Ottawa, saw bigger sales declines, but their prices remained firm, rising a little faster than the national pace of 2.7 per cent for the past 12 months. Montreal's average price was up by 5.6 per cent over that period and Ottawa's by 6.0 per cent.

A couple of cities saw small price declines over the past year, with a drop of 1.3 per cent in Vancouver and 3.1 per cent in Calgary.

The hottest metropolitan market in Canada seems to have become Toronto, with prices up by 8.5 per cent over the past year.

Not coincidentally, Toronto is the one market with a segment that could be flirting with speculative instability, suggests Douglas Porter, deputy chief economist at BMO Capital Markets.

While condo markets are also strong in Vancouver and Montreal, Toronto is a market where there seems to be a particularly big segment of the market supported by investors who buy units - sometimes multiple ones - in order to rent them.

Such a market can be destabilized quickly once the carrying cost of a condo rises higher than the rental brings in, and that has now happened in Toronto, notes Porter.

As a result, the only reason to remain in the market is the hope of speculative price gains, so ``any hint that the market is about to turn down could see investors getting out very quickly,'' he warns. That, of course, is a recipe for a potentially big drop in condo demand.

Still, the broader market looks increasingly sustainable as price gains slow down to a national pace that no longer outruns people's income growth, Porter notes. He expects this cooling in the market to continue all year, with both sales and prices remaining roughly flat.

At the TD Bank, senior economist Jacques Marcil has a similar outlook, with flat sales and average national prices creeping up by 2.5 per cent this year.

Given this benign outlook, it's a little baffling that we're still seeing scary reports from about Canada's bubble - a situation in which price gains accelerate as they feed on themselves.

Even Britain's Economist, a publication whose reputation is built on solid analysis, recently ran an article headlined: ``Canada's housing market: Look out below.'' The subtitle: ``After years of lecturing America about loose lending, Canada must confront a bubble of its own.''

Amusingly, once you plow through this longish piece, you find that its conclusion is that there's actually no bubble, just a ``balloon'' that might deflate slowly. Nevertheless, it warns sternly, low interest rates mean ``the balloon could get bigger - perhaps big enough to become a fully fledged bubble after all.''

While it's sad to see a renowned publication sink to such a level, perhaps it's not surprising.

Porter, who's been tracking all the predictions of disaster with bemusement, theorizes that people just can't understand why, if the U.S. had a huge crash, next-door Canada had its own big housing boom, but no crash.

The answer, of course, it that a bubble-and-crash cycle isn't easy to produce.

First, a true speculative bubble requires impressive levels of irresponsibility from banks and regulators, something that took a long time to develop in the U.S. Canada never matched this achievement. A mere 10-per-cent or so of overvaluation, which is roughly what we have in Canada, is no bubble.

Second, homeowners are very reluctant to sell what's usually their biggest asset at a loss, so many will hang on like grim death rather than sell into a devalued market, making it unusual for prices to drop rapidly.

``Is the market overvalued? Probably,'' Porter says. ``Will it collapse in the next six or 12 months? Highly unlikely.''

Apart from some overheated niches in the market, history suggests to him that we'll more likely see home prices that simply go sideways for several years, allowing incomes to catch up.

Montreal Gazette

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