The Canadian real estate industry faces a turbulent ride ahead in 2023 due to soaring interest rates and high inflation. That uncertainty creates both challenges and opportunities for those who can adapt strategically.
Canada’s housing market is experiencing a decline due to rising interest rates and affordability issues. The impact varies across regions, with overvalued markets like Toronto, Hamilton and Vancouver seeing the most significant declines. Median house prices are expected to drop by 15% from their mid-2022 peak, stabilizing in early 2024. The correction is necessary as previous price growth outpaced income increases and strained household debt. As prices fall, the construction pace will return to a pre-pandemic norm.
In this article, I will highlight and discuss the factors that could potentially cause a housing market implosion in Canada and its potential impacts on the overall economy. I’ll also explore some strategies for individuals and businesses to navigate these uncertain times.
Recent Housing Market Performance
Canada’s housing market is suffering from higher mortgage rates and diminished affordability. The five-year mortgage rate has spiked to 5.8%, the highest since 2008. The so-called affordability ratio comparing homeownership costs to disposable income is at levels unseen since the late 1980s.
While existing home sales have slightly improved, they remain 40% lower than the previous year, reminiscent of levels during the Great Recession — excluding the pandemic lockdown. High-interest rates have deterred buyers and discouraged homeowners from selling to maintain their low mortgage rates.
Sales have been volatile, but new listings have also slowed, indicating little forced selling. The existing home supply is now over four months, driven by a 2022 sales drop. Toronto and Vancouver had 47% sales declines, with high mortgage rates affecting affordability. Montreal’s sales decline has also accelerated.
The Challenges
The real estate industry is grappling with rising costs and reduced access to capital. Surveys suggest that many in the industry expect a decline in debt and equity capital compared to 2022. That financial tightening is likely to lead to disputes between sellers and buyers over pricing and asset values. With stricter borrowing requirements and higher financing costs, the competition among buyers may decrease. Many may choose to wait on the sidelines until the market’s direction becomes clearer.
Another challenge is an increase in the country’s unemployment rate. May 2023 marked a turning point in the labor market as the unemployment rate increased for the first time in nine months, reaching 5.5%. Rapid population growth in Canada suggests the economy isn’t generating enough jobs to match the expanding workforce. Job vacancies have also declined, indicating a weakening labor market. According to James Orlando, TD’s director of economics, while high population growth contributes to economic demand, the unemployment rate is on the rise.
Newcomers to Canada boost demand by purchasing goods and housing, playing a vital role in supporting the economy. That unexpected demand surge has helped the Canadian economy surpass expectations, leading to interest rate hikes by the Bank of Canada to control inflation.
Canadian Real Estate Demand Is Increasing
Canada’s real estate market saw record-high home prices and strong demand, which existed pre-pandemic, but intensified during COVID-19. Detached home sales decreased year-over-year, yet the market remained resilient in terms of prices quarter-over-quarter, due to persistent demand and interest rate constraints.
As the economy stabilizes and the population grows through immigration, Canada’s housing supply challenge will intensify. That path risks further dividing Canadians into housing owners and non-owners. A survey commissioned by RE/MAX in 2021 found that non-homeowners are more likely to support a national housing strategy to address Canada’s affordability crisis, while homeowners are less inclined to do so. Approximately 43% of the latter believe a national housing strategy is a key solution.
Affordability Concerns From Canadians
The majority of Canadians are concerned about housing affordability in 2023, with one-third hopeful for a balanced market. The RE/MAX Canada survey revealed that 59% of Canadians have worries about their 2023 home-buying or selling journey, with affordability being the top issue. Specifically, 34% are concerned about the cost of living and inflation, 25% about the lack of affordable options in their community and another 25% about rising rental costs.
Despite various concerns, 32% of homebuyers and sellers are optimistic about a more balanced housing market in 2023, as per RE/MAX Canada President Christopher Alexander. He expects substantial changes in broker operations due to economic shifts, potentially leading to industry consolidation. Alexander stresses the significance of personalized client interactions, strong client service, education and transparency in adapting to the changing environment.
Canada Is the Most Indebted Nation in the G7
A report from the Canada Mortgage and Housing Corporation revealed that Canadians hold the highest household debt among G7 countries. The report states that since 2008, Canada’s household debt-to-GDP ratio has consistently increased, in contrast to the 25% drop in the U.S. during the same period. That poses a vulnerability to global economic crises.
Canada’s household debt-to-GDP ratio reached 107% at the end of 2021, as reported. In contrast, household debt decreased in the U.S., U.K. and Germany, remaining nearly unchanged in Italy during the same period. Approximately 75% of Canadian household debt consists of mortgages, and rising interest rates are causing financial strain for households, raising concerns about increasing consumer financial difficulties.
The Future of Canada’s Housing Market
The Canadian housing market, despite declining values, shows resilience with committed buyers. The Bank of Canada’s rate hikes and rising inflation have certainly provided real estate investors with caution. Indeed, while Canada’s housing market remained very resilient during the last housing crises, the fact that this market has continued higher, with no reprieve for home buyers, has led to a situation in which affordability ratios are at nearly unprecedented levels.
Given where interest rates are today and how indebted the average Canadian household is, it may only take a small uptick in unemployment to force investors to start offloading their second, third, fourth and fifth houses — that’s another issue in the Canadian market I didn’t have time to get to.
If rates do stay higher for longer, as most central bankers contend will be the case, I just don’t see how Canada’s housing market can handle the pain.
On the date of publication, Chris MacDonald did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.
