Since last October, home resale numbers have almost doubled, up 41.5 per cent and setting new records in Toronto, Ottawa and Montreal, all according to figures from the Canadian Real Estate Association (CREA). It's stats like these that prompted economists from Scotia Capital, Derek Holt and Karen Cordes, to publish a report aptly titled, "Is there a Canadian Housing Bubble?"
And considering the data, it's not an unwarranted question. Holt and Cordes plainly put forth that "Canadian house prices are rich no matter how one looks at it, but they are likely to become richer yet before material risks emerge later next year and beyond."
They even answer their title's question with the retort, "probably," but elaborate that the combination of low rates, mortgage innovation and shortage of supply will keep it at bay for awhile.
In the Globe and Mail, Holt and Cordes said that "with prices up 20 per cent over year-ago levels and at all-time highs by virtually every measure, this is becoming an over-valued asset class in our opinion."
As for the argument that increased affordability is driving the market, Scotia Capital claims that using affordability as a valuation measure is not a fair valuation at all, as "affordability is often just an interest rate at play."
In other words, they believe that a housing bubble is well on its way.
Choose your words wisely
The word bubble, especially when it's used in conjunction with the phrase real estate, has a fair amount of weight behind and shouldn't be used lightly. When CMP contacted some of last year's top 50 brokers, for instance, they tended to agree the so-called bubble was as imaginary as the mortgage monster under your bed, and what the industry is experiencing is simply a sharp rebound. For them, it's the difference between performing the pole vault and landing on your back with the crash mat, or without it. In other words, the market will have its ups and downs, but this time when it does go down it won't hurt too terribly.
Peter Kinch, of the Peter Kinch Mortgage Team in Vancouver, believes that everyone is confusing leftover pent-up demand from 2007 to 2009 and the current low interest rates as a possible bubble.
He defines the term bubble as "an overexuberance of activity not founded on any core fundamentals, resulting in irrational buying behaviour of the public."
In a true bubble it's not enough that consumers can afford a house, but they have to chase after it like a stock that they know is over-inflated, hoping to make a quick return on it. Kinch calls this chase "the greater fool theory," in which the consumer hopes to buy an over-inflated priced house in hopes of flipping it in the short term to a greater fool.
Not only that, but for there to be a housing bubble Kinch finds it imperative that interest rates and unemployment rates increase sharply, resulting in a significant increase in defaults and fear. In turn, many houses need to be unloaded on to the market at once.
"I do believe there is fear-mongering that goes on in the media where people say, 'Oh, geez. I saw in the Globe and Mail today that interest rates are going to go up and it's going to cause a crash in the housing market.' Well yeah, theoretically," said Kinch.
However, he claims that the Bank of Canada would not drastically increase the interest rates at any given point. This is because of how closely tied the real estate market is to the economy, and more specifically, the Canadian dollar. The lower interest rates we see now are meant to stimulate the economy, and Kinch believes that the Bank of Canada would not arbitrarily destroy such economic stimulus by raising the rates too high or too quickly.
Dwight Trafford, of Mountain Mortgage in Orangeville, Ont., believes that people are currently being very reactionary to the market.
"There is some perception that there are still deals, and some perception that rates will rise," he said. "With that, people are jumping in and trying to take advantage of both situations."
He also blames the media for creating something new to report. "Saying that there isn't [a bubble], that's not news," he said, adding that cases of multiple offers also tend to lead people to believe that there is a bubble.
A balanced view
Then there is the opinion that today's market is simply balanced, and therefore a healthy one. For Paul Gazzola, of Mortgage Architects in Mississauga, Ont., a bubble occurs when prices are inflated over and above what normal level statistics would dictate of supply and demand. Gazzola believes that the speculation of there being a bubble right now is indebted not only to pent-up demand and bubble-flavoured comments by political leaders and bank governors, but also to consumers investing in real estate in hopes of pushing the market to higher rates of return.
However, he said that affordability will thwart that effort. Because lenders and the Canada Mortgage and Housing Corporation have implemented measures since the economic downturn in regards to maximum loans to value rations and refinances, the real estate market will stay away from a potential bubble status. That is, as long as interest rates do not increase within the next year.
What to tell the consumer
Although Kinch does not foresee a bubble in the Canadian real estate market's future, he is wary there will be a small secondary recession.However, he finds it normal that there is a downturn in the winter months, so the consumer should not misinterpret it as anything more and overreact to regular market conditions.
"If I'm in my house and I'm making my mortgage payments and I can afford my mortgage payments, then the value of my house on a day-to-day basis is actually irrelevant," he said. "The value only comes into play the day that I go in to sell that house. Consumers should really focus on measuring peak to peak and not peak to trough."
For Kinch, lack of consumer confidence is the biggest threat to the housing industry. Not only should consumers change their attitudes, but according to Kinch, brokers should as well. He says that brokers shouldn't adjust to a market that does not experience double-digit growth in real estate prices. Instead, they should adjust to small ups and downs, and in the end, brokers and consumers should ask the consumer one question: What can you afford?
This question should be asked regardless of what happens to a house's value or interest rates.
Trafford offers that brokers and consumers in Ontario and B.C. should instead worry about how the harmonization sales tax (HST) will affect the market when it comes in effect July, 2010. He said that rather than focusing on talk of a bubble, brokers should remind clients that the impending HST and the potential for a rise in interest rates make now the best time to buy.
What history tells us
Trafford believes that for there to be a bubble, house prices must be artificially and substantially inflated by at least 50 per cent, which is based on his experience as a broker in 1990 when there was a definite bubble. He claims that optimism in the economy, low interest rates and the fear that interest rates will rapidly increase are encouraging people to buy houses more so than if these factors were not present.
Based on current market conditions, Trafford predicts there will be a bit of a slowdown in real estate next year. Not only will the refinance market slow down, but so will purchases because consumers will realize that the economy is not what they thought it was. Despite these conditions, Trafford believes that as long as interest rates stay low, consumers will continue, at some level, to buy homes. And while a slowdown in the market is one thing, Trafford says there is nothing scarier than an actual bubble.
"When houses double in 24 months, you know that that's not going to keep going and everything goes south. People lose homes, people stop buying and everything disappears," he said. "They can't refinance because they have no equity. A bubble is the worst scenario, especially when it bursts."
Gazzola even bought his first house in the aforementioned housing bubble of 1990, and as painful as the burst was to the value of his house, by 1997 the value was back in tact.
"People should keep in mind that this is part of everyday economics," he said. "It doesn't always go up. When you purchase, purchase for the purpose of your home as a shelter and good investment versus rent. If rent is cheaper for you, then you should stay in the rental market."
Gazzola encourages consumers with "tougher credit" to maximize on their interest rates and correct their credit before looking into purchasing a home.
On the other hand, he encourages consumers to truly understand what is affordable to them, especially since the current low interest rates are not likely to be available come renewal time, and stresses that brokers make their clients aware of such possibilities.
While there may not be a bubble now, with things like bidding wars becoming more common in large urban areas, a little caution never hurt anyone.
Perhaps Peter Aceto, chief executive of ING Direct Canada, explained it best to Bloomberg News when he said "When Canadians are waiving conditions and paying 10 per cent more than asking for a home, it does give you some pause."