Is Canada’s housing bubble finally popping?

Clip You’re listening to a Frequency Podcast Network production in association with CityNews.

Jordan For years, home prices in Canada’s largest cities, and recently even in its smaller cities and towns, have gone in just one direction.

Clip In Canada’s hot housing market, when a for sale sign goes up, it’s quickly replaced with sold. This realtor says sales nearly doubled in the past year. It’s insane. We’re so busy and completely run off our feet. New listings are surging as sellers try to cash in on record-high prices. There are talks of cliffs and is the market going to burst? Is it going to pop? And what this report shows is, no, it’s not.

Jordan In the beginning, way back when, the initial question was how high can these prices go before we face an affordability crisis? Then a few years later, the question became when Canada’s housing bubble would eventually burst. A few years later, it was a question of if it was really a bubble at all, or if it was just the reality of living in the world’s most attractive countries in the 21st century. But a few months ago, something happened. After inflation hit, the Bank of Canada hiked interest rates. Then they did it again and again and then pop.

Clip Sales in the Toronto area plunged 41% in June compared to a year ago. In the Vancouver area, sales flipped 35%. Smaller markets like Calgary have also seen fewer sales. In Cambridge, Ontario, this home price was slashed by $200,000 since it was listed in March. In Waterloo, this sale price dove from almost $800,000 to $529,000 in a month.

Jordan It might be an exaggeration to say that our housing market is currently collapsing, but the boom years are definitely ending. So in this new economy, who’s winning in the market? Who’s losing? More importantly, what does this mean for average Canadians who either have most of their personal wealth tied up in their home or are renting hoping desperately to one day be able to afford one? Oh, and what does it mean for people and businesses who for a decade now, have been treating Canadian homes as an investment? A really, really profitable investment? How’s that working out for them now? I’m Jordan Heath-Rawlings. This is The Big Story. Ari Altstedter is a Toronto-based reporter for Bloomberg. He has been covering Canada’s housing market for quite some time now. Hello, Ari.

Ari Altstedter Hey, Jordan. Thanks for asking me.

Jordan You’re welcome. I’m going to start with the obvious question that we’ve been waiting to ask for years. I think Maclean’s Magazine has asked it on their cover about ten times. Has Canada’s housing bubble finally burst?

Ari Altstedter That’s a pretty loaded question. And is perennially up for debate. As you point out, what we do know, whether it’s burst or not burst, is we do know that house prices have been falling for the last few months. Whether or not it was a bubble in the first place, well, that depends whether you think or how much you think house prices were overvalued. That will really depend on how far they fall now. It’s only just started and the truth is, at least on a national level, so far the house price decline hasn’t been that big. It certainly hasn’t been anything like what could be termed a crash. That being said, most economists expect this to continue and whether or not we can say it was a bubble will depend on whether or not it pops. And whether or not it pops depends on how big a fall there is. So we just kind of have to wait until to see how far down we go.

Jordan Before we get into what’s happening now and what we might see happen next. I want to touch on that first bit again, just a little bit. Tell me some more about the debate that’s been going on for years around whether or not this is a bubble, a reality or true valuation. Like it’s been, as you said, quite a conversation.

Ari Altstedter Right. Well, I think the talk of whether or not Canada was in a housing bubble sort of started sometime after the big housing crash in the US, 2008, after their great financial crisis. Because what we saw in Canada is we didn’t really have a crash. House prices were hit during that time and the market did slow down, but very soon it was back up and running and home values were inflating again and that’s pretty much-continued kind of unbroken ever since. There was again in 2018 there was sort of another dip when the government here made some policy changes regarding mortgage qualification and interest rates are rising then too, but even that didn’t seem to really slow the market down all that much and pretty soon prices were rising again. And so those long years of sustained price gains have led many people to say, well it must be a bubble, particularly because price gains have come with a sort of an explosion in debt. They’ve been fueled by Canadians taking on more and more debt, mortgage debt, to fuel to buy houses and fuel those price gains. And so that led a lot of people to think, well hey, this has some of the hallmarks of what got the US. Into trouble prior to 2008. So maybe the same thing is going on in Canada. The other side of that debate though is that Canada, unlike the US. We have very high levels of population growth due to our high levels of immigration and so that creates a real demand for housing. All these people coming to the country need a place to live. And so the opposite of the bubble argument was that it’s not a bubble because there is real demand driving it. These are real people who need places to live and that’s what’s causing prices to go up, our growing population. And those are sort of the two sides of the argument going into what the market is doing right now.

Jordan So tell me what it’s doing now and maybe start with when did we first start to see the market slow down and what was behind that?

Ari Altstedter Well, the market which had been on to the course of the pandemic, really a historic tear, both in terms of just the number of homes that were selling and the rate at which prices were going up in the two years up to around the beginning of this year, price had gone up 50% nationally in Canada, which is a very, very fast, pretty much-unprecedented rate of gain. That all changed very abruptly in March of this year. And the trigger is pretty clear. It’s the Bank of Canada, which has been holding its benchmark interest rate at a record low throughout the pandemic to try to help get the economy over the hump that the pandemic caused. The Bank of Canada started raising that rate starting in March and since then it’s raised that rate very, very quickly. .25% beginning of the year to 2.5%. Now, as you can see, that it’s a very quick pace of change and the housing market responded almost immediately. Whereas before it was characterized through the Pandemic by bidding wars. Multiple offers will come in on properties as soon as they hit the market and within days, often they could be sold for hundreds of thousands of dollars over asking. That stopped pretty much on a dime. And at first, one bid might come in for a property and the property might sell at that level. But then in the weeks that followed, gradually no bids would start coming in and houses would start to linger on the market. Then, sellers have started to have to reduce their prices to try to move the property. And that’s sort of what’s been developing over the last few months.

Jordan In a little bit, I want to talk to you about what that means for regular Canadians who own a home or Canadians who are hoping to buy a home. But first, as we’ve reported on our housing crisis over the past couple of years, one thing that people keep telling me is so much of it has been driven by people and businesses that are buying houses and apartments as an investment to rent out. Do we know how much of that market has been driven by investors?

Ari Altstedter Right, well, we do actually. The Bank of Canada has done research into this and their data shows that by the end of last year, housing investors accounted for about a fifth of the market, about a fifth of new purchases of turnover in the market. That’s a record share for that cohort. And it rose up quite quickly over the course of the pandemic as investors, as prospective investors were able to take advantage of the very low interest on offer to be able to get the financing to acquire new homes and found a greater incentive to try to get those homes because they saw valuations going up so quickly. And it seemed like they better get in now before it was too late.

Jordan Can you explain to our listeners simply how the housing as an investment model works for these investors and what made it such an attractive proposition during the pandemic or even a couple of years before that?

Ari Altstedter For the most part, most investors in Canada tend to buy houses to rent them out. Rents have been high and rising in many Canadian cities for a very long time. Vacancy rates are very low, and so it’s been a pretty steady and reliable way to invest your money and get an income. And that’s what I think most housing investors do in Canada. There are variations on that. Sometimes they’ll buy a property and then renovate it, either to just fix it up, but more often to divide it into two units or three units. Maybe they’ll put a different apartment on each floor and be able to command more rent from that property than they would have otherwise. For the most part though, rental income does seem to be the main objective of housing investors in Canada.

Jordan And is that rental income just from long-term leases, or are we also talking about places being bought and rented for short-term rentals? Airbnb?

Ari Altstedter I think Airbnb is an element of that. It’s hard to tell exactly how many are short-term and how many are long-term. I do get the sense from my reporting, though, that although maybe in some parts of cities like Toronto or Vancouver, maybe Montreal, or perhaps vacation destinations like cottage country, you may see a higher prevalence of short-term rentals and Airbnb. But I think most of the investment activity in Canada is probably people looking for longer-term rentals to get a tenant in their longer term. I was just going to say that there is, of course, people love to hear about and talk about this idea of flippers, people who buy a property to sell it on very quickly and reap a gain. And while that is a part of the market, and it’s usually professional real estate investors who maybe have a number of investment properties, rental properties, who might, if they see the opportunity to do that, try to flip. And I think there probably was more of that activity over the course of the pandemic boom just because such a fast rate of price appreciation made it almost irresistible for some people when they had the opportunity. I’m not sure that in Canada there are that many investors who their business model is flipping. It’s more of an opportunistic thing.

Jordan So how have these factors changed the investment proposition over the past, you know I guess since March, as you mentioned, with the interest rates rising, are the margins getting smaller, are they vanishing? What’s happening to investors?

Ari Altstedter Right, well, I mean, essentially when you have a rental property, when you’re a housing investor for the most, well, your main goal is rental income. But your costs are things like taxes. If it’s a condo, it could be condo fees. The main cost, though, is probably your mortgage. It’s the interest rate payments, principal payments you’re making each month on that mortgage. And many investors, or many people in general, frankly, over the past year particularly, have gone for variable rate mortgages because they were much more attractive in that period than fixed-rate mortgages. But the downside of variable rate mortgages is that the interest rate rises when the Bank of Canada raises its interest rate. And so that means in the past three or four months, as the Bank of Canada has raised its benchmark interest rate very quickly, the interest rate payments on all those variable rate mortgages have gone up very quickly as well. And so that means the costs for these investors are going up very quickly as well. And often, even though rents have been rising that time. If you have a tenant in a unit right now, you can’t just raise the rate anytime you want. You can’t raise their rent anytime you want. In most jurisdictions, there’s rent control. Most buildings there’s rent control. Even when there’s not, you can only raise once a year in a city like Toronto, there are rules on this around the country. And so that means in many cases, their costs are starting to really outpace their income. If they haven’t already far outpaced their income, that means you’re losing money on the unit each month. And not many people can sustain that kind of it’s called negative cash flow, which is essentially paying out money each month on your investment as opposed to taking money in.

Jordan So what happens then to the market in general when 20% of the market starts shifting from investment income to negative income?

Ari Altstedter Well, I mean, the first thing that happens is that 20% was of new buyers, of people buying new properties. Everything that I’ve heard suggests that that’s more or less disappeared. All these investors that were so active in the market, they’re sitting on the sidelines, they don’t want to take a risk on buying a property right now. Things so much in flux, they’re not sure that the investment will prove out. But then add to that, many of them may be getting into trouble on the properties they already own in exactly the way that I just sketched out with negative cash flow is becoming more of a problem. And because the investor doesn’t live in the home, obviously, and the investor is in it to make an income, or potentially in the long term realize a gain from selling the property. If it starts looking like you’re not getting any cash flow right now and prices are falling, I may not get much gain in the future, I may as well sell now. And that just makes it, tips the scales more and more and makes more of these investors as the situation continues and perhaps deteriorates, it makes more of the investors more likely to sell. And so for the market at large, you get a steady sort of drip of what’s called distressed listings. People who they kind of have to sell come into the market. And that means if you have to sell, you’ll take any price you can get, which pushes prices in general down further.

Jordan You called it a drip, drip, drip. Can this kind of thing gather momentum as more people either who are investing or who just can’t afford their mortgage, with interest rates rising as they get out of the market?

Ari Altstedter The idea of this kind of thing building on itself, it’s something that a lot of economists worry about. The main mechanism for that to happen is generally when home values start falling so much, many people are underwater on their property. And what that means is the value of the property currently is less than the mortgage you have out on it. Which when people look at that, they think, or they might think, well, why am I holding on to this thing? I’m going to bail out. I’m going to get rid of it. I think because investors are obviously not the majority of the market. Many people you know who might be underwater on their home, they live in that home, it makes them very reluctant to sell. And so from their point of view, they might just be better off holding on because if they’re going to be in the home for many years, valuations might rebound and they may be okay in the long run. And the same thing may be true for investors perhaps don’t have that negative cash flow each month. If they don’t have a mortgage on their investment property, even if the theoretical value of the property is less than the mortgage, if they don’t have any pressure to sell, they might just decide to hold on and hope things turn around. I haven’t heard many worries voiced that this sort of starts to gather pace, as it were, and balloon. It’s more that it could gather pace only if interest rates rise further. It all really depends on interest rates. It’s more dependent on what the Bank of Canada does, what interest rates do, and whether or not investors can keep up on their monthly payments.

Jordan So since you brought them up, I’ll ask you, what does this mean for the average Canadian homeowner who maybe doesn’t rent out their home, doesn’t consider it an investment, but has seen some of its value dissipate and also, as you mentioned, off the top, probably took out a huge loan in order to afford this place during the boom times?

Ari Altstedter Right. Well, I mean, any homeowner who took out a variable rate mortgage could see their monthly payments go up. National Bank of Canada has done some number crunching and out of the variable rate mortgages that are out there, their estimate shows about 60% are variable payments as well. So that means when the interest rate goes up, their monthly payments go up. 40% are called fixed payment variable rate mortgages, which means interest rates go up, but their monthly payments may not go up in tandem because the extra interest gets taken out of their principal repayment. So when you have a mortgage, every month you make a payment, part of that goes to interest, part of that goes to paying down the principal on the loan. And with these fixed payment variable rate mortgages, you pay more in interest, but you just end up taking that out of the principal payment. Thing is, interest rates have now gone up so far, so fast, that on some of these mortgages there may not be very much principle repayment left. All of that money may already be taken up by the increased interest payment, which means even these people who opted for a fixed plan may end up having to pay out more money each month. Now, does that necessarily get all these people into financial difficulty? Maybe not. Maybe they can end up doing some belt-tightening elsewhere and they’re okay, could drag on their consumer spending, it could drag on the wider Canadian economy in that way. But like I said earlier, people live in their homes, are generally very reluctant to sell them. It’s generally sort of a last resort. So whether or not all those people become a sort of drag on the market or forced to sell, it doesn’t seem like an immediate worry. But it could just mean some belt-tightening in the near term.

Jordan And what about the rental market? We talked about rising rent costs with all these investors or at least some of these investors trying to move out of the market. Does that drive rates higher? Does it go down?

Ari Altstedter Yeah, it’s sort of a double whammy here, which is things are getting harder for property owners, but that in turn actually could end up making things harder for renters as well. Because in the way the real estate market would normally work, every year a certain number of people go from renting to buying. They end up buying a home and that frees up some rental units for other people that need them. The thing is, with this rise in interest rates, the cost of buying a new home or buying a home has become more expensive than by some estimates it’s ever been. The decline in values we’ve seen so far has just not been enough to keep up with the rise in mortgage rates, which for many people is the cost of getting into the ownership market. A lot of people who might have otherwise left the rental market and bought won’t be doing that. They’ll be renting for longer, which seems to be a recipe for vacancy rates to fall and rents to rise. And we’re actually already seeing that in some major cities.

Jordan So, last question then, what will you be watching for in the next few months? Obviously, interest rates possibly hiked again, when will we know that and what else are you looking at?

Ari Altstedter Well, I think an important driving factor in all this will be interest rates. So the Bank of Canada has a meeting scheduled periodically, that is when they have the opportunity to raise or lower rates. And they’ve signalled in their last communicate that to expect another rate hike. The market is sort of bracing for that. But the truth is, rates have risen so far already and these things generally hit on a bit of a lag for the real estate market. And so we really haven’t seen the full impact yet of the rise in interest rates we’ve already seen. That will start to play out over the next few months as investors and just regular homeowners start to deal with this persistent higher cost in their monthly budget. And when it comes to investors, more and more at their breaking point and get to the point of okay, I can’t sustain these any longer, it doesn’t seem to be getting any better, what do I do? And so that’s why there’s sort of an expectation that there will be a steady drip of these people, maybe offloading properties into the market. So I think that is going to play out and then in sort of the longer term, maybe getting into the fall and later, it all depends on what interest rates the Bank of Canada does and what the broader economy does. A lot of people are worried about a recession, that the Bank of Canada’s interest rate increases, attempts to slow down inflation, ends up slowing down the whole economy so much. And if a recession comes up, well, that main danger some people’s employment, which then starts getting regular people, not just investors. The broader economic sort of scenario is something to keep an eye on too, as the effect of these rate increases filters into the economy.

Jordan All sorts of fun things to look forward to.

Ari Altstedter Yeah, it’s a really fraught time in the Canadian housing market and the Canadian economy. So lots to keep an eye on.

Jordan Ari, thank you for walking us through this.

Ari Altstedter No problem, it’s a pleasure. Thanks a lot for having me.

Jordan Ari Altstedter, reporting on the housing market for Bloomberg. That was The Big Story. For more from us, head to thebigstorypodcast.ca. You can of course, find us on Twitter at @TheBigStoryFPN. Share your housing market horror stories, if you have any. You can also email us with story ideas anytime, [click here!]. Or you can call us up and rant and rave or just say something nice. The phone number is 416-935-5935. The Big Story is available in every conceivable podcast player on Earth, and all you’ve got to do to get it on your smart speaker is say, play The Big Story podcast. Thanks for listening. I’m Jordan Heath-Rawlings. We’ll talk tomorrow. Back to top of page