I have to admit, I have never been able to understand how average, hard working people making $70K a year (and that’s if they are at the top end of the working stiff spectrum) could afford $400K to $500K homes. The math never made sense to me when researching the US housing market back in the day (as far back as 2002 it did not make sense to me, much less 2005/2006) and it sure does not make sense to me today with regards to these nutty urban Vancouver and Toronto housing markets in Canada.

The standard response when I roll the sky high valuation numbers and facts past the average urban Canadian home owner/potential owner I come across (I try to avoid them, they are almost as bad as Apple Fanboys) with regards to the craziness of residential real estate in Vancouver and Toronto is that “wealthy Asians (specifically Hong Kong Chinese and mainland Chinese) are going to hold up the Toronto and Vancouver residential real estate markets”. I guess we’ll soon see how it all plays out.

Sometimes when meeting new people that live or have real estate in the large urban centers in Canada, especially non finance people, they will ask me what they should do with their house. I tell them “Unless you live in an exclusive downtown neighbourhood. Sell, take the money you have made and put it in the bank. Then rent for a while”. The range of reactions I get when I say this go from big surprise and follow up questions, to smirking (that they think I don’t notice) and the end of the discussion. Reminds me of all the cocky, buy and flip, real estate gurus in the US around 2005.

Back in the day, when things were good economy wise (call it from around 1998 through to 2000), I would see people making $80K a year (and with three kids) buying these huge $400K homes in the middle of nowhere in those suburban wastelands they like to build outside the major cities in the US. I always knew it would end badly, but I never anticipated just how bad the debt situation and the job loss would be in the US. And even if people were able to get a new job to replace the lost job, they never made any where near the money at the new job they were making in the nineties (US employers took advantage of the slow domestic economy to lower pay levels). Just look at the real personal income per capita data in the US and this fact is very clear.

As a result, I underestimated just how bad the residential real estate decline would get in the US. If I had foreseen how bad it would be, I would have shorted every bank and real estate/mortgage company I could find around 2006/2007. I decided to avoid the US real estate craziness back in 2002 and looking back it was a wise decision.

I expected Canada’s residential real estate market to at least smarten up in the fall of 2008/early 2009 (the US residential real estate actually peaked in 2006). And for a very brief few months in the spring of 2009, that is exactly what happened (see the below graph).

But similar to 2001/2002 in the US, to avoid the pain of a recession (the start of the ultra low interest rates from the US Fed and continued easy credit policies). The newly elected (fall of 2008/early 2009) Conservative government in Canada basically implemented a “free mortgage credit policy” with anyone in Canada applying for a mortgage who could sign their name or push enter on the keyboard nearly assured of getting approved for some huge amount. With very little of their own money as a down payment. It was crazy. People would show me their pre-approved mortgage letters from their bank or mortgage company and even they would be surprised.

Mostly, the easy mortgage policy was to make sure the newly re-elected (that nutty Federal election called in the fall of 2008 that no one showed up to vote in) Conservative government in Canada got re-elected the next time. All part of the long-term plan to finally grab a majority Conservative government in Canada.

One thing politicians (politicians in all endeavors really, including at work) know how to do is survive. They may not have any skills or be very bright, but they’ll work the system to make sure they are among the few left standing. Government politicians know they can serve a term, maybe two. Get set-up with a good pension and call in a some favors for a cushy job in the private sector when they are ready to leave office or are voted out. The mess they leave while in office, the next person can clean up. That’s been the individual political game plan for 30 years in developed market countries. Residential real estate and the real estate lobby are a major tool in the entire fake economy (using residential housing as an economic tool), debt based economic game plan. Thus, it’s no surprise that the developed market economies are in the slow growth bind that we now live in.

Courtesy of Teranet: Canadian House Price Index for December 2012

Canada - housing index, Dec 2012, Teranet
Canada – housing index, Dec 2012, Teranet

After a great run in the 2000′s, the Vancouver home price index finally turned slightly negative year over year starting in August of 2012. Right now the year over year decline sits at -2.0% for December 2012 (see the dashed green line above). Not much of a decline, but it’s a sign the residential real estate party is finally over. I can also informally tell the party is over from desperate sounding blog posts on Canadian real estate agents web sites. Exactly the same denial approach the real estate industry tried in 2006 in the US when it was clear the good times had come to an end.

The sales transaction numbers in Vancouver are worse. Sales volume has been consistently negative year over year since November of 2011 (except for one positive month this past summer).

Just like the stock market, price above all else is what matters. The Canadian economy will need to get much worse than it is right now for a sharp and quick residential real price collapse to happen. That said, I do expect the negative year over year price trend to continue in Vancouver. Average Vancouver and the surrounding suburbs may see home prices eventually end up back at 2004 levels. And if it gets really bad, they make even see 2000/2001 levels again. But this will be a long, drawn out process. Similar to the 1994 through to spring of 2001 period of flat prices that Vancouver experienced before all this craziness with housing as a means of economic growth started.

Note:  The Canadian government was forced to face reality on housing prices in the last year.  After gaining the majority government, the Conservatives finally tightened the very easy mortgage rules and that was all that was needed to slow things down.   The truth is they could have left things as they were back in 2006 when important specific mortgage rules were loosened/changed by the same Conservative government (notice the spike in the year over year growth rate in 2006), but I already explained that “votes” take precedence over sensible economic policy in this world.

Toronto, believe it our not, is not quite at the lofty Vancouver price levels. But the residential real estate party is basically over in Toronto as well. Surprisingly, the Toronto index was up 6.3% year over year for December 2012. I can’t figure out how or why the average working person would pay these prices for the average home in Toronto (you should see the stuff they are pushing. Especially the condos), but I have to take the numbers as they are presented. It’s just a matter of time before Toronto prices go negative year over year, and I expect that to happen before the spring of 2014.

Toronto had a long period of flat residential real estate prices after the bust in the early nineties (for some reason, this Taranet data series only went back to 2000 for Toronto) and I expect a similar flat to down price dynamic in residential real estate to play out in Toronto for the next 5 to 10 years. Unless, the Canadian and Toronto economy gets really bad. Toronto, like New York City is a unique situation, as people want to live in TO.  Because of that cultural demand factor, a residential real estate bust is hard to picture in TO. There’s always some person trying to get in and trying to make it in Toronto.

If you want to get a picture of the slow economic growth happening right now in Canada, the recent Canadian nominal Retail Sales numbers tell you all you need to know.  Economic growth in Canada right now is even slower than the US.  A change from the norm in recent years. Canada’s economy held up relatively well during the 2008/2009 downturn. There are reasons for this. The resource based nature of Canada’s economy and the fact the banks in Canada may have even more government and central bank protection than the big banks in the US now enjoy (in Canada, it’s sold as the banking industry being more conservative). In fact, the banking industry in the US looks more like the concentrated and protected Canadian banking industry every day.

Courtesy of Stats Canada: Canadian Nominal Retail Trade (Sales, November 2012)

Canada - nominal retail sales for Nov 2012
Canada – nominal retail sales for Nov 2012

Notice nominal retail sales growth of just 1.37% for November 2012. Almost close to a recession level growth rate from just eyeballing the past years on the graph. Adjust for inflation and for the fact that Canada has a growing population and on a real retail sales per capita basis, you can see the situation for Canada’s retailers is probably worse than the US right now.  Canadians are basically tapped out on housing and debt.  If this level of nominal retail sales keeps up, don’t expect much job growth in Canada.

The best Canadians can hope for at least near-term in 2013/2014 is that they get through this slow growth period in the US and in Canada without much job loss. Similar to what happened in Canada in the 2008/2009 time period with respect to the job situation. But the days of residential real estate helping keep the economy going in Canada are over.

 

Until next time.

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One thought on “Canadian Housing Markets Finally Facing Reality

  1. The weak real GDP numbers in Canada are impacted currently by the slowing state of the Canadian housing market (I’m researching this right now to find out just how much housing has been and is currently contributing to real GDP). If the Canadian housing situation gets worse in years to come, similar to the housing decline in the US, politicians will not be able to use residential housing as a tool to artificially pump the real GDP numbers.

    I know the Bank of Canada’s economic forecast models are quite sophisticated and complex, but whoever is running the real GDP forecast model/models lately has been way off.

    In the recent Jan 2013 Bank of Canada Monetary Policy Report (Jan 2013), the BOC has lowered the expected year over year real GDP forecast for 2012 to 1.9%, down from 2.2% in the Oct 2012 forecast (anyone with a pulse should have known that 2.2% number for 2012 back in October was nuts). And for 2013 they have lowered the real GDP forecast to 2.0%, down from 2.3% back in the October forecast. At least for 2012, they have been consistently off in their growth forecasts….not even close.

    Another two or three months of weak (barely above 1% on most important growth metrics in the last couple of months) economic performance data in Canada like we observed in Q4 2012, and we can all forget the current 2.0% real GDP forecast for 2013 (unless some miracle economic growth event occurs in the US to improve Canada’s exports).

    BOC Real GDP Forecast (Jan 2013)

    Hope this helps.

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