State of the Canadian Housing Market, August Recap

Toronto, ON | Diego Grandi/Shutterstock.com

Written by Breck Hapner

Editor’s note: Welcome to the Haven State of the Canadian Housing Market series. Every month, we will share an update explaining details and projections related to Canada’s real estate sector to keep you informed.

Canada may be facing a precarious real estate bubble exacerbated by high debt levels. This could potentially lead to an unraveling of the Canadian housing market, particularly in the Toronto region. According to the UBS Global Real Estate Bubble Index, published October 12th, 2022, Toronto was ranked as one of the most inflated real estate markets in the world.

A bubble occurs when the housing prices in a particular area rise rapidly, generating demand that is fraught with elevated risks due to imbalances in economic markets. As mortgage rates and inflation increase, concerns also grow that personal incomes may not sustain overall housing affordability.

What are the Problems in the Canadian Real Estate Market?

An August 22nd, 2023, Bloomberg article indicates that the Canadian real estate market bubble could burst. This scenario could potentially be worse than the 2007 financial crisis in the U.S., leading to a significant deleveraging in Canada’s market. If debt levels become too high, the resulting unraveling could create economic instability.

During the 2008 U.S. housing crash, markets worldwide suffered repercussions, although Canada’s real estate markets fared reasonably well during that period. The biggest downside of Canada’s resilience during 2008 is that it did not experience the housing market reset that many other countries went through.

The delayed housing market reset process may now pose a threat to the current economy. The Bloomberg article highlights the amount of leverage in the Canadian real estate market, indicating that expanding debt-to-loan ratios in the country are becoming problematic to the point of being unsustainable.

Canada’s Geographic Housing Weak Spots

One primary issue is Canada’s population. According to the UBS report, a significant percentage of Canadians reside in two cities: Toronto and Vancouver, which also exhibit the greatest bubble risk. You can find this information by downloading the UBS Global Real Estate Bubble Index PDF from the main landing page on their website. If either of these bubbles were to pop, it could be catastrophic for the Canadian economy.

Also, by examining the Statistics Canada population distribution map, it becomes evident that many of the densest real estate markets spread across Canada could be affected. These include cities such as Calgary, Edmonton, Hamilton, Montreal, Ottawa, Regina, and Windsor, as well as Toronto and Vancouver.

Canada’s Expanding Debt-to-Income Ratio

On June 20th, 2023, the Business Council of Alberta reported that Canada’s debt-to-income ratio stands at 184.5 percent. This ratio reflects the total debt an average Canadian carries in relation to their disposable income, which means that for every $100,000 in income, there is $184,500 in debt.

Vancouver, BC | Russ Heinl/Shutterstock.com

Canada’s Credit Market Debt is Rising

The credit market debt chart from the Business Council of Alberta suggests that higher real estate prices and the presence of two massive real estate bubbles have led to a significant increase in mortgage debt. While consumer debt hasn’t risen to the same extent as mortgage debt, it is beginning to increase in response to the effects of inflation, which is also becoming a significant concern.

Canada’s Economic Growth Decline

In the economic growth chart from the Business Council of Alberta, it is evident that combining high debt ratios with surging interest rates is putting the Canadian economy in a position where actual growth is starting to decline. The impact of interest rate hikes is being felt not only by consumers but also by corporations. This is expected to result in higher unemployment levels, potentially putting some homeowners in a position where they may struggle to pay their mortgages and making it difficult for renters to enter the buyers’ market.

This scenario could begin the unraveling of the Canadian real estate bubble. That being said, all the governmental and financial institution updates that have made it easier to manage mortgage payments, such as assistance programs and increasing amortizations, have helped to further ingratiate a potentially unsustainable debt.

What Does all this Mean?

If interest rates don’t begin to decrease when five-year fixed mortgages start renewing in the next two or three years, many homeowners could find themselves in a difficult financial situation. This outcome depends on the extent to which the Bank of Canada can manage a soft landing in response to inflation and rising interest rates. Is Canada sitting on a housing bubble that could potentially burst, throwing the country into a deep recession?

Newfoundland, NL | Erik Mclean

Some Facts About Causes of the Bubble

The Canadian housing market does have excessive home prices relative to household income, which has been escalating even before the pandemic introduced a low interest rate environment. The Bank of Canada seduced many homebuyers into purchasing with then-affordable interest rates and housing prices surged, though incomes did not.

Phillip Colmar, the Macro Research Board strategist who said Canada may be sitting on “one of the largest housing bubbles of all time,” also said in this BNN Bloomberg TV interview:  “I’ve analyzed housing bubbles in the developed world, and Canada has really got a unique one to its own … “ inferring that the country is situated on a “double-edged sword” with “home price-to-income ratios that are off the charts and affordability that is very weak.”

As mentioned, experts are not only concerned about high home prices but also about excessive leverage backing the entire system, as the debt-to-income ratios are not sustainable. The hope is that home prices remain stable, interest rates don’t continue to rise, and incomes grow, especially when the Canadian economy is dealing with greater inflationary dynamics and higher bond yields.

After the Bank of Canada’s consecutive interest rate increases during 2022, there was economic stabilization, but Colmar stated that bond yields are rising, increasing the possibility of default because of higher mortgage rates. “We’ve reviewed Canada as a weak link to the global economy on interest rates,” said Colman.

What Will Happen to the Canadian Housing Market?

The challenge lies in the need for home pricing, interest rates, and incomes to remain stable over an extended period, given the extensive nature of the current Canadian bubble.

For instance, if both interest rates and unemployment begin to rise, mortgage burdens could adversely affect affordability and possibly plunge Canada into a recession.

A collapse in the Canadian real estate market hasn’t yet become a reality. With high interest rates and inflation, experts are awaiting the deleveraging process predicted by looking into their economic rear-view mirrors.

The stage is set, but who has heeded the warnings?

Mont Tremblant, QC | amanda

In our September recap, Haven will take a further look at the numbers: how Canada’s housing market is reacting to prevailing economic factors influencing real estate.