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The great Canadian housing saga

IFM_ Canadian housing saga
Affordability is a big concern in Canada, particularly in Ontario and British Columbia, where RBC's Hogue highlights that high house ownership expenses have greatly reduced property resales

The last few years have seen a rollercoaster ride for the Canadian housing market. Since rent increased by 8% in 2023, you may wonder if 2024 is the right year to purchase a home.

Nearly one-quarter (24%) of Canadians between the ages of 18 and 34 say they might or probably will purchase a home in 2024, while 22% of those between the ages of 35 and 54 are considering buying this year, according to Wahi’s most recent 2024 Homebuyer Intentions Survey. Of those considering a home purchase, 49% await how home prices develop, and 48% want to wait to see how interest rates change.

Whether a first-time or seasoned home buyer or if you’re considering purchasing a home this year, there are a few things to consider before making the important call.

Economists’ perspective

As per the Canadian Real Estate Association (CREA), despite interest rates being at a 22-year high, there has been an increase in activity in the home market.

CREA chair Larry Cerqua said, “The market has been showing some early signs of life over the last couple of months, probably no surprise given how much pent-up demand is out there.”

Home sales activity increased 3.7% between December 2023 and January 2024, according to CREA data, building on the 7.9% month-over-month gain seen recently.

The Greater Toronto Area, Hamilton-Burlington, Montreal, Greater Vancouver the Fraser Valley, Calgary, and the majority of areas in Ontario’s Greater Golden Horseshoe and cottage region lead the nation in sales increases once again.

“The biggest year-over-year gain since May 2021 was observed in the actual (not seasonally adjusted) number of transactions, which came in 22% above January 2023,” CREA noted, as it added, “Having said that, the double-digit gain was more indicative of the base effect from the comparison to January 2023, which was the worst start to almost any year in the previous 20 years, given that current activity is still running below average levels.”

In January 2024, the number of newly listed homes increased by 1.5%, although it was still very near the lowest level since June 2023.

Robert Hogue, Assistant Chief Economist at RBC, stated that “the larger window of opportunity for buyers is likely to open only after interest rates have dropped materially—something we foresee in the latter stages of 2024 or 2025. This is particularly true for first-time purchasers who might have more limited funds.”

According to Hogue, “There will be a lot of pent-up demand to satisfy in the market once confidence returns, which could heat things in a hurry. If interest rates start to decline in the middle of the year as many predict. Expect little to no decline in home prices, nevertheless, since poor affordability conditions will restrain the recovery.”

Pent-up demand may drive up prices, but shocks from mortgage renewal payments (as mortgages renew at much higher rates) may cause more homeowners to list their properties on the market, balancing supply and demand.

Hogue projected a 9.2% increase in Canadian home resales for 2022, following declines of 25.1% and 11.1% in 2021.

A “return to the rollicking price gains of recent years, and previous highs for some locations, is unlikely at this point,” according to BMO Senior Economist Robert Kavcic. This is good news for purchasers in areas like Ontario, where he anticipates further pricing pressure in the spring. However, costs would remain high, and “the subsequent rebound will likely be temperate due to still-challenging affordability.”

The Bank of Canada is probably done raising interest rates and will start lowering them shortly, according to Kavcic, who agrees with most analysts: “We believe the Bank will be in a position to cut rates around mid-year, with 100 bps [or 1%] of easing through 2024. Mortgage rates will drop as a result of those reductions.”

Despite a spike in home sales in December 2023, Marc Desormeaux, Principal Economist at Desjardins, predicts lower prices and sales this spring.

Desormeaux does, however, also anticipate a broad-based increase in housing prices in the middle of the year that will last into 2025, in keeping with the Bank of Canada’s anticipated interest rate reductions in the middle of 2024.

He predicts that the more expensive areas of Toronto and Vancouver, which are more susceptible to changes in interest rates, would see the biggest recoveries. But by historical standards, price increases will be “mild,” particularly when compared to the pandemic-era real estate boom, when prices nationwide increased by more than 20% when loan rates were still low.

Bank of Canada’s stance

Because the Bank of Canada’s monetary policy influences mortgage interest rates, its perspective on the housing market is significant. To curb consumer spending when inflation increases, the Bank hikes rates; but, when inflation approaches its target of 2%, the Bank is more likely to lower rates. The prime rate, now 2.2% higher at 7.2% than the overnight rate, is impacted by increases in the overnight lending rate.

Lenders utilise the prime rate to determine the interest rate on various products, including variable-rate mortgages. Consequently, the cost of borrowing increases as the prime rate does. However, the shelter component of the Consumer Price Index, or CPI, the most widely used inflation indicator, includes mortgage interest rates in addition to rental expenses. Thus, high mortgage rates lead to pressure on inflation.

The Bank of Canada maintained its 5% overnight rate target in its most recent rate decision, stating that while inflation is declining, certain CPI components are still too high to lower rates just yet. One of the most prominent elements is housing: according to Bank Governor Tiff Macklem, “Inflation in shelter services remains high—close to 7%—because of rising mortgage rate costs, higher rents, and other housing costs.”

Macklem stated that while there was a “considerable uncertainty” around property prices, he anticipated that the market would “rebound” in 2024 with predictions for interest rate decreases later in the year. He stated that although buyer demand would determine whether or not the Bank anticipates a “modest increase” in property prices.

Nevertheless, Macklem also stated that the apex bank is powerless to address the issue of home affordability.

For many years, the supply of housing has lagged behind the demand for housing, according to Macklem.

“There are numerous causes for this, including labour shortages, zoning constraints, and ambiguities and delays in the approvals process. Monetary policy cannot solve any of these issues,” the official continued further.

Industry’s outlook

CREA has revised its projections for home sales and average home prices, citing the continued influence of interest rates as a primary factor shaping things for 2024 and 2025. The forecast anticipates a modest 2.3% increase in the national home price, reaching $694,173 in 2024, with further growth expected in 2025. National home sales are predicted to rise by 7.3% in 2025, accompanied by a 4% increase in average home prices.

Significant sales gains are anticipated in provinces with robust housing demand, such as Alberta, as well as in regions experiencing a rebound from lower sales volumes, including Ontario, and Nova Scotia. Moreover, several provinces, including Alberta, Quebec, New Brunswick, Nova Scotia, and Newfoundland, are forecasted to see price gains surpassing the national average. Conversely, British Columbia and Ontario are expected to see prices remain stable. Contextually, the decline in home sales by 11.1% in 2023, compared to 2022, marked the lowest annual level since 2008.

Immigration and housing

There has been a lot of finger-pointing as the nation’s housing crisis worsens: at foreign investors buying up residential real estate, at local governments and their onerous zoning laws, and now, at immigrants and international students, who are the most recent group to come under fire for making the situation worse.

Canada, leading among G7 nations in growth rate, crossed the 40 million population threshold in June 2023 after experiencing an increase of more than a million in 2022. Immigrants made up almost all of those new Canadian citizens. The number of international students has also increased dramatically; as the country is expected to welcome 900,000 overseas students in 2024, three times the number from 2013.

Immigration Minister Marc Miller stated that “volume is volume, and it does have an impact,” on the immigration wave, even though Canada’s main political parties have been careful not to hold immigrants responsible for housing issues. The federal government is thinking of capping the number of overseas students to relieve some of the burden, but it is not going to back down from its recently raised annual objective of 500,000 new permanent residents by 2025.

However, Carolyn Whitzman, a housing policy researcher at the University of Ottawa and a specialist advisor to the University of British Columbia’s Housing Assessment Resource Tools project, asserts that restricting immigration is not the answer.

“We have an inaccurate view of the problem because the millions of Canadians who currently live there as well as anticipated arrivals are not included in currently estimated housing needs. Immigrants are an easy target,” she stated, while adding, “We discussed the pressing need for a national social housing programme, the lack of statistics on who genuinely needs housing, and our eagerness to turn the conversation toward immigration.”

How is this significant?

Overall, economists anticipate interest rate reductions to commence in mid-2024, contingent upon the Bank of Canada’s assurance that inflation is managed. Interest rates impact the demand for property by potentially deterring purchasers from entering the market and influencing supply as homeowners with current mortgages may choose to sell when faced with interest rate fluctuations during renewal. This could result in a market favourable to buyers.

CMHC Senior Specialist of Housing Research Tania Bourassa Ochoa predicts that 2.2 million mortgage borrowers, accounting for 45% of all outstanding Canadian mortgages, will need to renew their mortgages between 2024 and 2025.

“The majority of these borrowers secured their fixed-rate mortgages at historically low interest rates, most likely during the peak of housing prices around 2020 to 2021,” she observed.

Decreasing interest rates may prompt potential buyers who have been holding off due to less favourable rates to re-enter the housing market. This can lead to an increase in house prices, which is anticipated by the middle of 2024. Sales volumes and prices are projected to rise nationwide.

As per the CREA, recent price decreases have mainly occurred in Ontario markets, especially in the Greater Golden Horseshoe region, and to a lesser degree in British Columbia. In most parts of Canada, prices remain stable, but certain regions, such as Alberta, New Brunswick, and Newfoundland and Labrador, continue to experience price increases.

Note that there are significant variations in market circumstances across different locations. A house located in a metropolitan area like Toronto will have a higher price compared to a house in a smaller town or village. Urban areas may have higher demand leading to competitive bidding among buyers, favouring the seller. In contrast, rural properties may take longer to sell, making sellers more willing to negotiate on price.

Will 2024 be favourable?

Borrowing costs are high, although home prices have decreased from their peak levels during the pandemic. Prices are anticipated to remain low in the first half of 2024, potentially encouraging buyers to enter the market. Affordability is a big concern in Canada, particularly in Ontario and British Columbia, where RBC’s Hogue highlights that high house ownership expenses have greatly reduced property resales.

Long-term trends indicate an increase in home prices, which can create pressure for first-time buyers to enter the market promptly. Let’s examine two situations to observe how interest rates and purchase costs impact your monthly budget. Both alternatives presuppose a minimal down payment.

Scenario A: Elevated interest rate, reduced house price. Buying a $500,000 home with a 5-year fixed-term mortgage at 5% will result in monthly mortgage payments of $2,873. By the end of the five years, you will have paid a total of $172,388, comprising $56,773 in principal and $115,615 in interest.

Scenario B: Involves a reduced interest rate and an increased house price. If the home’s value increases to $525,000 (a 5% increase) and you obtain a 5-year fixed-term mortgage at 4.75%, your monthly mortgage payment will be $2,934. By the end of the five years, you will have paid a total of $176,046, consisting of $61,242 in principal and $114,804 in interest.

During the five years of the mortgage, you will pay a higher amount towards the principal and a lower amount towards interest, resulting in slightly increased monthly mortgage payments. Based on this example, it appears more advantageous to purchase a property when interest rates decrease.

If the price of the $500,000 house increases to $550,000, your monthly mortgage payment at a 4.75% interest rate will be $3,067. Over the five-year term, you will have paid $64,022 towards the principal and $120,017 in interest. You have reduced the principal amount more significantly, although the total interest cost has increased. Additionally, you may not have the financial means to cover this increased monthly payment.

Setting aside these eventualities, it is hard to predict the timing of the housing market or the stock market, and these forecasts are not definitive.

According to the CREA, there was a 1.2% monthly decline in the Aggregate Composite MLS Home Price Index in January 2024. Compared to the 1.1% decline seen in December 2023, this indicated an acceleration of the decline.

The Greater Golden Horseshoe region of Ontario and, to a lesser extent, British Columbia has seen the most price reductions.

In other parts of Canada, prices are either barely changing or, in certain situations, notably in Alberta and Newfoundland and Labrador, are still rising.

In January 2024, the real, non-seasonally adjusted national average house price was $659,395, a 7.6% increase from the same month in 2023.

Senior economist at CREA Shaun Cathcart said, “Sales are up, market conditions have tightened quite a bit, and there has been anecdotal evidence of renewed competition among buyers; however, prices are still trending lower in areas where sales have shot up most over the last two months.”

When combined, these patterns point to a market that is beginning to recover from the past two years’ difficulties, but still navigating them. So before you start your house search, keep your finances organised.

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