Hilliard MacBeth is an Edmonton-based portfolio manager with Richardson GMP Ltd. He also wrote a book, called When the Bubble Bursts: Surviving the Canadian real estate crash
, and thinks the market is overvalued by up to 50 per cent.
Jennifer Paterson, a journalist with MBN
sister site Canadian Real Estate Wealth
, spoke with Macbeth about the “inevitable” crash, his methodology and how you can best prepare your clients.
Jennifer Paterson (JP): How did Canada get to this place where a housing crash is inevitable?
Hilliard MacBeth (HM):
What happened can be explained like this: the housing market started to enter a bubble in 2000, around the same time as in the U.S. Prices rose from about 67 on the Teranet
index, for single-family homes, to 167 today, a gain of 2.45 times. The extreme good luck for Canada in the rising commodity prices, especially oil rising from $10 in 1998 to $140 in 2008, set up an environment of confidence and optimism. As well, Canada has a financing system through the CMHC where banks and other lenders can offer mortgages without taking much risk. Household debt increased from $1 trillion to $1.8 trillion in 10 years from 2005 to 2015. About three-quarters of this total carries some form of government insurance or government guarantee.
It’s important to understand that the insurance protects only the lender
and the homeowner is still at risk for the total loss if the housing bubble bursts. An increase of that amount in such a short time is very rare but when it has happened in other countries, it’s always been followed by a financial crisis, as the borrowing is used to buy illiquid assets such as real estate.
JP: How did you arrive at the figures of 40 to 50 per cent?
The best measure of affordability is the ratio of house price to household income. Prior to 2000, this ratio seldom rose about three times, fluctuating between two and three for decades. In the U.S., just prior to their crash, that ratio hit 4.4 times and then dropped down to about 2.5 and now is at three.
In Canada, the average ratio today is about five times, with Vancouver over 10 times and Toronto about six times. To get back to three times, the average ratio would have to drop about 40 per cent, from five to three, or in the case of Toronto 50 per cent from six to three. Don’t even mention Vancouver.
The other way to calculate the required drop in house prices is to get the house price index back to the trend line that existed before the bubble. This requires a drop of about 50 per cent on average, although specific geographic markets vary across Canada.