(Runtime: 6 min, 51 sec; size: 77.22 MB)
Benjamin Tal, deputy chief economist, CIBC.
As we know, the real estate market was the champion of the Covid recession, and the question is why in a recession have we seen the real estate market booming with prices rising by more than 20% all over the country? So something very unique happened here, what happened is asymmetrical nature of this crisis. We have to remember most of the jobs lost during this crisis were young people, low paying occupations. Those were mostly rentals, and that’s one of the reasons why the rental market went down. Which means that many home buyers or potential home buyers did not feel the crisis financially. So if you think about it for a second, what happened here is that potential home buyers got the benefit of a recession vis-a-vis extremely low interest rates without the cost of a recession, vis-a-vis a broadly based increase in the unemployment rate, because most of those people, their job was secured, they were Zooming, their income was there, in fact it went up. So they benefited from low interest rates without the cost of being concerned about their job security.
That’s the secret behind the success of the housing market during Covid. Something that we haven’t seen before, very important to understand because usually in a recession, interest rates go down, but also the level of job insecurity goes up and people are not acting on those low interest rates. This time, that was not the case, and that’s why the housing market has been so strong. Now, it has been too strong, because now the housing market is slowing down, just to give you a sense, clearly sales were down over the past few months and now it’s starting to stabilize. But the market is slowing down, not because it is weak, it is slowing down because it is strong. What I mean by that, if we look at some numbers, before the crisis, unit sales per month was about 50,000 a unit. It went up actually to 70… 80,000 during Covid and then it’s going down. But still it’s about 10,000 units above what it was before the crisis. That’s still a very strong market and inventories are at a record low.
We have seen a few things happening here that I think we have to take into account. One, and people have to understand that, is gifting. The amount of gifting in the market is something that we haven’t seen before. Namely, parents providing money for a down payment. We have seen a situation in which the number of first time home buyers that now receive a gift in Canada is basically 30%. Almost one out of three first time home buyers get a gift, that’s a significant number, a record high. In addition, mover uppers, 10% of them still get a gift from their parents.
We are in the midst of the largest transfer of wealth in Canadian history and most of it is going to housing to pay for a down payment. In addition, we have seen a 20% increase cosigning with parents, assuming some of the debt or the total amount of debt. That’s something that we haven’t seen before, and we have seen a significant increase in investment in the condo space, designed to buy a unit for kids. So this family money transfer is a big factor that we cannot ignore, impacting the trajectory of the housing market. Just to give you a sense for mover uppers in Toronto, the average gift is about $250,000. In Vancouver, the average gift is $340,000. So we are talking about a lot of money, that is a game changer. This is one aspect that we have to discuss and understand.
The second, is okay… The market is doing fine, the fundamentals are strong, but what happens when interest rates rise? It is true that as a society, we are much more sensitive to the risk of higher interest rates. And we know that interest rates will be rising, the only debate is how quickly? What will be the impact on the housing market? So here we have two factors. One is new buyers, potential buyers, and here I see a significant softening. For example, for current levels, if you raise in rates by 1%, it’ll cost the average buyer roughly $230 per month extra. This is not insignificant, and we expect the actual interest to be more than 100 basis points. This can actually slow down originations in a very significant way, and that’s actually a good thing because the market has to slow down.
What about people that are going to renew their mortgages? Here actually, many of them are isolated and actually immune to any increase over the next few years, because their actual rate is higher than the current rate. And we estimate that interest rates have to rise by about 100 basis points before people that will be renewing over the next few years will feel the pain, so many of them have this immunity. However, if you took a mortgage in 2020 and 2021, and we have seen a huge increase in originations about 60% during Covid in 20 and 21… This cohort will not be protected because interest rates are much lower and therefore any increase in interest rates from this point will be felt 100%. And that will actually have some negative impact on their ability to consume other things, and therefore will have some microeconomic implications.
I do believe, however, that when it comes to… Especially the low-rise segment of the market, especially in cities like Toronto, Vancouver, Montreal, Ottawa, we have seen a situation in which we are reaching a resistance level when it comes to price. Price is simply too high, and therefore we see the move towards the condo space. Not only new construction, but also the resale market, and we have seen a situation in which this space, the condo space, high-rise is actually moving very quickly fueled by demand from investors. As well as the fact that people realize that the city is back, therefore condos are back, and also it’s the only affordable channel given the huge increase in low-rise detached housing, as far as their price is concerned. The only thing that can derail this market is the policy error. Namely the risk that the Bank of Canada or The Fed will start raising interest rates way too quickly to chase inflation, and that’s something that can derail the market because the enemy of the market, again is not rising or higher interest rates. It is rapidly rising interest rates.