Friday, February 25, 2011

Toronto Real Estate Bubble Analysis

Is Toronto in a real estate bubble? This is the question I'll aim to answer here.

So the common complaint is that Canadians are stretched and taking on too much debt. From the below chart we see that household debt-to-income is climbing.



Yes this is very bad, and I hope the trend slows down because if it continues it would handcuff our economy in the future. Does this mean we are a nation that is not credit worthy like the US. Short answer is no.

As we can see from the above chart, asset growth is high. Assets include everything from stocks, bonds, savings, and yes, your home.

I can feel the argument, well if prices fall, then a huge chunk of our assets would be wiped out. This will cause a cascade throughout the market with panicked sellers right?

I'll answer that question with another question: If prices fell 20% would you rush out to sell it and lose all your equity because you're afraid it will fall further?

Of course not. Your not stupid, and generally no one else is that stupid. You will sit and hold out until things get better.

How can we measure our ability to hold out? We have to measure our ability to service the debt we have.

From the below chart, we can see that even though debt to income is high, our ability to service the debt is within historical norms.

OK ya, I can hear the argument, our ability to service debt is easy now because rates are so low.

What if rates go up? Everyone paying debt with low interest rates would be bankrupt right?

That would make sense if everyone was servicing debt with these very low rates.

From looking at the below chart Canadians are not dependent on low rates. The interest rates people are paying is still well above the bank rate (which gives us a buffer even if rates rise).

The reason why the buffer exists is that the rates people are actually paying didn't go down as fast as the bank rate.

Another argument I hear is that prices are just too high, and what goes up must come down.

The way we should measure house prices is how much of your income goes towards housing. Like my good friend Calum Ross says, you don't buy a house, you take on a payment.

For the average priced of a home in the Toronto Real Estate board, based on current average incomes, the percentage of income going towards housing is still relatively low historically. Meaning that if either rates, property taxes, prices or utility costs go up, we are still buffered.

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Additionally, how do we measure if people are teetering on the brink of losing their home? A good way is to see how many mortgages are 3 months in arrears. That number is at 0.5% of all mortgages in Canada.





Another thing, The Toronto job market is stable, jobs are being created modestly and population growth to the GTA is high.

So the only way prices are to fall 20%+ is if rates go up massively, incomes go down drastically, if suddenly there is a mass migration out of the GTA, or there is huge calamity that causes people to lose their jobs.

If you think that's going to happen you might as well buy a bunker and stock up on canned tuna.

10 comments:

randy ramadhin said...

Great analysis. GTA affordability is being kept to acceptable levels because of the record-breaking development of high rise and low rise development.

Anonymous said...

Good analysis, however, this report excludes inflation expectations and its effect to homeowners. This will be the driving factor in 2011 when the costs of oil, food and other consumer goods rise way above lending rates.

The assumption of a %20 decline in securities, stocks, RRSP savings, ect. is a rosy figure. In the 2008 market crash, the average investor would have lost %50 from September 2008 to March 2009 (6 months). During this period there was no high inflation and unemployment was roughly %6.

We are now well over 8% unemployment (in real terms) and inflation is on the rise. An informed analyst is well aware that government stats and household expenditures are fudged and inaccurate.

In dire times one must use classic observational analysis.

conveyancer Adelaide said...

If the recession continue, more people will unemployed and sad to see that their houses will be foreclose. For me, its more comfortable to buy a house right now which is not too big. Just a simple house which is low cost and low in maintenance. We must consider the payments must be low in order to minimize credits.

Andrew C. MacDonald said...

I like the logical flow of your article. It is a great walkthrough for folks whatever their understanding of economics and your argument is very rational.

I'll sleep better tonight for sure.

Thanks Brian.

Anonymous said...

Thanks for another Kool Aid. Hmm, when I read more and more...I am wondering you are really an expert or just another "Real Estate" guy telling us to borrow more. Interesting to see after 3/18 which 35 yrs ending.

Waiting for more Kool Aid...fool loves it!!!

RN said...

"Thanks for another Kool Aid. Hmm, when I read more and more...I am wondering you are really an expert or just another "Real Estate" guy telling us to borrow more. Interesting to see after 3/18 which 35 yrs ending.

Waiting for more Kool Aid...fool loves it!!!"

Exactly!

We heard exactly the same kind of nonsense from the real estate industry in the US right before...well, you know the rest.

Anonymous said...

I would be interested in hearing about how the potential risk of supply outstripping demand of housing might factor into this given the volume of new units being built in the GTA.

Anonymous said...

This article is very biased and oversimplifies things dramatically.

No mention of speculators buying condo's? Who do you think will be the first to exit when things start falling?

Flippers?

How about the damage caused by the potential oversupply of condo's?

And hypothetically speaking what happens to the individual that borrows 1 million today on a 1.1 million property that loses 25% in value. What happens when the bank says the property is only worth 825k? And their loan to value ratio calculates the maximim mortgage they can provide on renewal is 742K? Oh but wait they have paid off so much principle with low interest rates right? WRONG! The bank says come up with the difference. But whats 200K here or there? Everyone can come up with that kind of money? Its called a forced sale...but who would be dumb enough to sell when values are low? You don't have a choice silly!

Oh but wait, the immigrants are buying all this new inventory? Really? We all know that immigrants come to Canada rich?

Nobody has a crystal ball. But what goes up must come down...and it may be catastrophic. Vancouver has begun...the GTA is next!

Its cyclical and for those that remember the late 80's it may be UGLY...really ugly. How many current buyers can wait 10+ years for a recovery? And what does it do to the job market when you can't move becuase you will lose your shirt!

Be afraid...very afraid.

Kate Louise said...

I like the logical flow of your article. You have done a great job. I would like to recommend this blog to everyone. Thanks for sharing!

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Anonymous said...

You will easily get the reasult from those graph and those ratio result as how the debt is really increasing day by day. I think people should be more careful about their debt issue. I found some helpful info from condo assignment Toronto that is really good to me. Thanks for the update.