Analysts Warn Of Developing Housing Bubble In Canada

Canada's major cities have seen continued inflation in house prices for years.

But as the rest of the country flattens, bankers and analysts are warning there may be trouble ahead…

The Hottest Home-Buying Cities In Canada

• Vancouver leads the pack, with residential property prices in the Greater Vancouver area pushing 30% past last year's figure for the month of May. The average price of a house near the city is now nearly ^Can$1.2 million!!! That's just over $900,000 American.
• Toronto prices are up 15% over the same period. Average house price: ^Can$734,000 (^US$570,000).
• The rest of the country averages out to a 13% increase over the last year with an average price of ^Can$509,500 (^US$395,100).
• Relatively poor performers are Alberta and Newfoundland, where prices have not really grown and the average price has hovered just over the ^Can$300,000 (^US$232,000) mark.

See here the performance of the provinces between May 2015 and May 2016:

As you can glean from the graph, the story is not positive in every part of the country.

Sales volumes are starting to fall in the more expensive regions, leading analysts to predict a slump.

The Canadian Prime Minister has already named this the “Vancouver Housing Crisis”.

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Banks Foretell A Topping-Out

The Bank Of Canada has started telling prospective home buyers in Vancouver and Toronto that prices are likely to stop climbing soon.

This prediction is based on some fundamental laws of economics: when things get too expensive to buy, people stop buying.

When people stop buying, things get cheaper.

Analysts Feeling Queasy

That predicted fall-off in interest and cessation of price growth is what's worrying analysts.

Capital Economics' Paul Ashworth says it's “a very big bubble.”

He sees a building glut of household debt being caused by the current high prices.

Without a high-price market to sell these properties back into for a profit – a lot of people are going to be a loss.

That loss will domino through the banks and into the economy at large.

Bank Of Montreal economists Doug Porter and Robert Kavcic filed a report on Wednesday that cites the “obvious factor” behind property market growth as low borrowing costs.

However, they also point out that the Vancouver and Toronto are tent-poling the whole market, which is otherwise performing mildly.

That introduces other important factors, like foreign buyers – something BMO and the Prime Minister agree on.

Trudeau Blames The Foreigners!

Justin Trudeau, Canada's popular new Prime Minister, sees the influx of Asian capital to Canada's wealthiest cities as a destabilizing factor.

His options, he says, are limited, as action taken at a Federal level to ease growth in Toronto or Vancouver would have to apply across the board. 

That would detriment the smaller markets like Calgary, Montreal, and Halifax.

Banks Unfazed – With One Exception

On the whole, the Canadian banking sector isn't sweating too much yet.

They claim the risk of a downturn is limited because employment and interest rates remain high.

Ashworth calls that kind of thinking “naive in the extreme.”

One exception in the banking sector is the Toronto Dominion Bank.

TD says a housing market correction is imminent.

They summarize Bank Of Canada's “fundamental laws of economics” as “Stretched Affordability”.

So When Will It Happen?

TD sees housing prices easing their growth over the next six months due to rising borrowing costs.

They implicitly encourage the government to enact legislation to curb speculation on the housing market.

Without such a move, they foresee solid slowdown indicators emerging over the course of 2017.

Ashworth is less certain on timing, and he admits that his firm has been describing this bubble for the last five years.

However, this year has seen top markets grow 5-10% month-on-month.

That can't be sustainable at these levels for long, and he notes that the growth of house prices in the top cities already outstrips the highest levels of growth in the US prior to the crash there.

And What Happens Then?

Ashworth stresses that the link Bank Of Canada seems to see between property prices falling and mortgages defaulting is more complicated than they make out.

Like any market, a large factor in its performance is based on human intuition – acting based on anticipated performance.

Right now, the market is growing in part based on anticipated growth – and if the coverage, opinions, and evidence of a coming slump start to convince people, it could self-fulfill just as easily as the growth has.

Given that this is just the most unpredictable factor at play, Ashworth plucks an inflection point out of some thin well-educated air: 20%.

If Canada sees a 20% fall in the top markets, he foresees a danger of the price fall and loan foreclosure combo becoming a self-reinforcing feedback loop.

Put more succinctly: a Canadian crash.

Let's hope he's wrong.