Like every other young couple I’ve ever met, Shawn and Amy sit across the table and ask me the same question: So when do you think it’ll be a good time to buy? In a culture where people more easily mingle their fluids than their money, and mistake a house for a home, real estate’s a god. Even though it costs obscenely, negates freedom and mobility and is a declining asset class, the horniness goes on.
So today I have the answer. But first the news.
What we all need to understand (even the dewy-eyed virgins) is the magnitude of the wealth destruction possible in Canada over the next few years, as real estate sales and prices revert to the mean. Over the last few days I’ve kept you updated on recent sales collapses in almost all of the major Canadian markets when it comes to occupied homes. From a 4% drop in The Peg to a 32% crush in Halifax and a 38% rout in Van, it’s clear to see the market’s tumbled from year-ago levels.
But how about new homes?
The dominant construction market in Canada is the GTA. Here are the latest stats:
- Condo sales for 2012 (January to November) down 34.5% from 2011.
- Low-rise (SFH) sales for this year, down 18.3% from last year (which sucked).
- Total new home sales are the second-worst ever. Only 2008 was more brutal.
- Year-to-date sales are 16% below the long-term average.
- The number of unsold condos is a bloated 21,400, with almost three times that amount in the pipeline.
“Sales of low-rise homes in November were the worst on record next to the gloom of November 2008, when we weren’t sure if the world’s financial system was going to hold together or not,” says analyst George Carras. This is remarkable, given the fact mortgage rates are still 3%, credit’s easy to get, the economy is growing and no asteroid has impacted. So why would this collapse happen with both resales and new-builds?
Simple. Houses cost too much. Until prices fall back into line with incomes, the wealth destruction will continue. This brings me to Thomas Holloway, a fixed-income analyst at a Vancouver-based investment firm but, more critically, a follower of this pathetic blog. He has just penned a worthy piece on what happens to housing bubbles, and published this chart.
What the heck does that mean? Lots. Holloway (who has way more time than I do) plotted 48 housing cycles over the past 40 years in a plethora of countries, charting not only prices but price-to-income ratios. In other words, it reflects affordability. The thick black line is the average. The red line is our current real estate gasbag. The US case-Shiller index is in blue dashes and the US federal housing agency’s index is blue dots.
The conclusion: Housing bubbles start on average with prices about 20% below the peak and then (always) fall back an equal amount. Canada’s current bloat began about 30% below the peak and, if the pattern holds, will end up 30% below bubblicious 2012 levels.
“Using a combination of price-to-rent and price-to-income, the straightforward conclusion is that Canadian housing needs to unwind about 30% from the current valuation ratios,” says Holloway. “That’s not the same thing as prices crashing by 30%! Importantly, if rents and incomes continue to go up, prices may not need to drop that much. In fact, annual growth in income and rents of 3% would deflate half of the valuation bubble over seven years. It is also conceivable that we don’t revert all the way back down. A modest price decline coupled with gains in rents and incomes is called a soft landing, exactly what the central bank and federal government is aiming for. However, watch out for weaker inflation or income gains, particularly as the economy adjusts to weaker housing activity.”
In my view a soft landing, at least in markets like Vancouver, is impossible. Household debt levels are off the chart, savings rates are negative and wage gains across Canada have been running at less than inflation. So without a spurt in the amount of money families have to spend, a soft landing turns into a smoky hole in the ground – exactly what happened in the States.
What does this mean for Shawn and Amy? Well, if they want to buy at the bottom instead of on the way down, 2019 looks like a bitching year to do it. Patience.
And now, for our comedy segment: