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The Economist warns on house prices; RBC (un)affordability index released

NOVEMBER 25, 2011

The Economist warns on Canadian house prices:

By now I assume many of my readers have seen this article over at The Economist.  If not, it's well worth the read.  Here are the key quotes:

"...Home prices are overvalued by about 25% or more in Australia, Belgium, Canada, France, New Zealand, Britain, the Netherlands, Spain and Sweden (see table). Indeed, in the first four of those countries housing looks more overvalued than it was in America at the peak of its bubble."

"Another concern is that Australia, Britain, Canada, the Netherlands, New Zealand, Spain and Sweden all have even higher household-debt burdens in relation to income than America did at the peak of its bubble. Overvalued prices and large debts leave households vulnerable to a rise in unemployment or higher mortgage rates. A credit crunch or recession could cause house prices to tumble in many more countries."

Yeah, but what does The Economist know.  They don't get the intricacies of a real estate market that only goes up....forever....and is not bound by pesky fundamentals.  Otherwise, the graph below might actually concern us.

The reality is that in most Canadian cities, the housing market is entirely detached from fundamentals.  Rather, we have markets that require three things to sustain house prices at these elevated levels:

1) A stable supply of new buyers (might be a stretch going forward given that our ownership rate is at an unprecedented high)

2) Access to cheap and abundant credit (yet Canadian consumers are stretched pretty thin to begin with, and we have the growing chance of another credit crisis)

3) The willingness of buyers to pay these inflated prices (the mass psychology that drives bubbles must remain intact...."buy now or be priced out forever"...."renting is throwing money away"...."safe as houses"...

Interestingly, Canadian real estate is the most overvalued anywhere in the world when compared to rents.  As I've noted before, rents are the primary determinant of the fundamental value of real estate.


RBC releases its (un)affordability index:

Readers may be interested in the latest RBC affordability index.  It's always an interesting read, but I would again caution that you should take their index with a grain of salt for reasons I outlined before.




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Ben Rabidoux
By Ben Rabidoux

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  • kate said:
    • 2 years, 4 months

    Is the Chinese government's penchant for nationalizing assets is driving money out of China at astounding rates and into Canadian real estate? They would rather put their money in 'safe' Canada than invest it in China - hedging the risk their business assets will only be taken over by their state. I have heard that they lose 50% of their money to the underground banker who gets it out of China and into foreign land.

    I also hear that student enrollment in Vancouver is shrinking because families can't afford to live here. What happens when business can't afford to be here either because the cost of real estate is multiples higher than other places? Vancouver is not the land of Head Offices so the high paying jobs (that could afford the high-priced houses) are not highly concentrated here.

    Unless we are the Manhattan of Canada, I don't see how any of this makes sense. I've been thinking this for 4 years though and the market is still going up. Go figure.

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  • george said:
    • 2 years, 4 months

    The debt dominoes are starting to fall.

    Deleveraging: There never was another choice

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  • Greg said:
    • 2 years, 4 months

    One chart explains it all

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  • Appraiser said:
    • 2 years, 4 months

    From the above referenced report from RBC:

    "The share of household budget needed to cover the costs of owning a home at market values generally remains close to historical norm." - RBC

    This is an important part of the housing market equation that is most often overlooked by publications such as The Economist.

    The is no catalyst for fundamental change in the real estate market. Until costs actually begin to impinge upon the monthly pocketbook of homeowners, the market can be sustained.

    As much as we can rail against seemingly outrageous nominal debt numbers, it is debt-service that rules. And interest rates appear that they will remain accomodative for as far as the eye can see.

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  • deanincalgary said:
    • 2 years, 4 months

    u r such an idiot. That RBC report is BS. If you read the fine print there are two things in it that render the report total crap:

    1) Assumes 25% down payment. I would challenge even a dolt like you to name ANYONE who puts down 25% on their house today.

    2) ALL calculations were done with GROSS INCOME!! YOU PAY YOUR MORTGAGE WITH AFTER-TAX INCOME. duh

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  • Mike said:
    • 2 years, 4 months

    Hi Ben,

    FYI, I took the survey that pops up when visiting this page and along the way I received error messages on two different occasions:

    Visitor Survey (continued)

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    UnicodeDecodeError: 'ascii' codec can't decode byte 0xe2 in position 9: ordinal not in range(128)
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  • 45north said:
    • 2 years, 4 months

    from the link that George posted: All that's left to do is writing down debt, and let go under who owns too much of it. Deleveraging. There never was another choice.

    but the Appraiser makes the argument: "The share of household budget needed to cover the costs of owning a home at market values generally remains close to historical norm."

    My proposal is that in the case of mortgage default, the government send the former homeowner a cheque for $1000/month for a year. This proposal would be instead of a mortgage modification program. Mark Hanson shows that in the US, the mortgage modification program has been ineffective even futile.

    post-mod, the median recipient has a PRE INCOME TAX DTI of 61.5%, which is still far too high to be considered a long term solution.

    well in Canada a program to modify mortgages will be equally ineffective, equally futile

    I also propose that the administration of CMHC be changed so that in the case of default, the bank is paid only if it forecloses. This would also make the bank responsible for paying municipal taxes and upkeep of the property.

    George's sentiment is that "troubled times are coming" in which case there will be tremendous pressure on government for mortgage modifications. If not people can just pay their mortgages.

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  • landlord said:
    • 2 years, 4 months

    I have to say, I have not seen this many bidding wars in Toronto - people have gone nuts to buy anything. In fact search downtown core for 4br, house detached <2M. You will get a few crack houses. Simply no inventory.

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  • Greg said:
    • 2 years, 4 months

    Anyone remember my post about Bank of Canada FX intervention? Here it is...

    Post a comment
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