Thoughts on Canadian housing part 2

About 3.5 years ago I discussed my thoughts about CDN housing. You can read the post here. I basically concluded that house prices should go higher because we were in the early stages of an economic recovery with low mortgage rates and a "bubble burst" has never occurred in such circumstances. It was right and without trying to sound arrogant, it was a relatively easy call. Living in the GTA, I can tell you that the value of my home has increased about 20% in 3 years given recent sales of a couple houses on my street similar to mine.

So, the question is what about now? Well, we are certainly a lot further along in the recovery but mortgage rates remain historically low despite ticking up recently. The government enacted some tightening measures by shortening amortization periods to 25 years last year but that only had a brief cooling effect. Prices are now at new highs. 

Sentiment towards housing is fascinating. Just like 3 years ago, there's no shortage of doomers out there who keep calling for a collapse. If you read the comment section of any article that talks about housing you will see it dominated by doomers. Early this year I remember reading about some economist (from one of the big banks I think) calling for a "lost decade" for housing prices. Just recently The Economist and the OECD have been warning about Canada's frothy housing market. I'm not going to be a smart ass and say that a bubble can't burst until all this pessimism is gone. There's always gonna be doomers no matter what, however, at the top of a "bubble" market, there is at least a major cohort of people who have come to accept that the elevated prices of the asset in question are a thing of permanence. I really don't get a sense of that just yet. There's at least an equal amount of pessimism as there is optimism towards housing in Canada.

The main argument that housing doomers use is the price to income ratio which they point out is way above the historical norm. This is to me is a flawed measure for it doesn't take into account a very critical factor in determining housing affordability - interest rates. Take for example Joe Blow, who earns $100,000 a year and has a $300,000, 25yr mortgage with an 8% interest rate. The monthly payment for such a mortgage would be  $2290. Now take John Doe who earns $100,000 with a $450,000 mortgage at 3.5%. The monthly pmt is about the same as Joe Shmoe even though he's carrying a mortgage that's 50% larger!

So, despite what the doomers say, interest rates matter and matter big time and to ignore them in any kind of affordability measure is not being realistic. When you take into account the actual burden of carrying a mortgage, housing prices aren't as bubbly as they would appear to be. I wouldn't say they are cheap either though. Now, a doomer who reads this will certainty say it's inevitable that interest rates will rise substantially from these low levels. Well, that will likely turn out to be true...at some point, but you have to keep in mind history has shown that interest rates can be very low for decades! Just look at what interest rates (both short and long term) where from 1930-1960.

Then there's the argument of owning vs renting. There are those who claim that right now it's cheaper to rent vs own when you take into account all variables. I have to admit, I need to examine this claim further but with my personal circumstances, I don't see the appeal of renting. When I compare the cost of carrying my house (which includes property taxes, utilities, ect)  to renting a similar house in my neighborhood, I see no advantage in renting. I realize my situation could be different vs that of others (mortgage size, mortgage type, fixed vs variable, ect). But again, I need to look into the renting vs owning situation in more depth.

3.5 years ago I was comfortable in predicting there was no immanent "bubble bursting" for Canadian housing. With prices now considerably higher and with the economy further into the recovery cycle, it's not nearly as easy to make the same call but if you put a gun to my head I'd say I still believe there's no immanent bubble bursting. Housing is definitely now more vulnerable should there be some sort of shock like an interest rate surge or a recession but neither seem to be in the cards and without such a shock, it's going to be difficult to see housing prices collapse or even have a serious correction. The government might try to tighten conditions again and that could be a trigger, but unless they do something really drastic, I believe it would only cause a temporary dip as what happened last year. I still think  it's going to require a period of sustained rising interest rates to trigger a downturn in housing. Even though interest rates have been rising they are still quite low historically and so I think we'd need to see a much larger rise for it to prick the bubble.