We live in interesting times. I have been fielding a lot of questions regarding the market turmoil and what it may mean for the Canadian Real Estate market (particularly Vancouver). Yes it’s true, The S&P/TSX Composite Index fell 12% Thursday, the biggest one day drop since May 1940 per Bloomberg. Surely this will all have serious implications, but what does it mean for our beloved housing?

The short answer is, I don’t know. Nobody does. What I can tell you is there are a few things I’m watching very closely and a few possible outcomes worth considering.

First, this is absolutely an economic shock, one that the Bank of Canada is probably ill-prepared for, just like the rest of us. Canadian households are the most indebted in the G7. We chose not to take the medicine in 2008, and thus, household balance sheets remain bloated today. The household debt servicing ratio sits at a record high, despite low interest rates. Further, household savings rates are near 60 year lows. In other words, there’s not a whole lot of cash put aside for a rainy day, households are not well positioned for an economic shock.

This shock will unfortunately result in a hit to incomes, and will bring rise to job layoffs. Thus, servicing debts becomes increasingly difficult. Further, this is not something that can be fixed by lowering interest rates. We have a global pandemic where policy makers are encouraging people to disengage from economic activity. In other words, avoid restaurants, organized events, and travel- the very thing that makes society function and drives consumer spending, which accounts for over 65% of GDP. Remember, one mans spending is another mans income.

And so, this leaves us with a host of questions to ponder. How will Canadians service the debt on $1.56 trillion in mortgage debt, not to mention other means of debt such as credit lines, and credit cards? What about tenants who can’t pay their rent?

Perhaps we should look at how other countries are coping. In Hong Kong, the Government will cut a cheque for $10,000 to every resident. In Italy, the Government is working with the banks to get a moratorium on mortgage payments. In the city of San Jose they have adopted a moratorium on evictions for residents who can’t pay rent because of lost income resulting from the coronavirus outbreak.

These all seem entirely plausible in Canada. You can debate the moral hazard around it, and whether it’s the right or wrong thing to do, however we might not have a choice.

In terms of the overall market, I suspect we will see a halt in activity. Not just a slowdown in sales, but in new listings as well. You won’t see this reflected in the data for several months, mostly because of the lag time for data processing. Further, while it seems logical prices could drop, if they do, that also won’t be reflected in official price metrics for many months. Due to the emotional nature of Real Estate, nobody cuts their price overnight. Unlike stocks, there is no mark to market on a daily basis.

I’m also thinking a lot about new construction projects, which are capital intensive and often funded using significant amounts of leverage. Every month sales are delayed, carrying costs add up, putting profit margins under pressure. Further, closing risks are no doubt something to consider, should pre-sale buyers have a change in their employment status upon completion. We are expected to see a record number of new completions this year with the number of units under construction at all time highs.

Units under construction across Metro Vancouver

Lastly, I am thinking a lot about the private credit market. We know private lending has been growing at a rapid pace these past few years, it’s estimated to be about 10% of new loans issued. This increases renewal risks for buyers who, again, might have a change in employment as the loan comes due. Most of these loans are one year terms. Further, I would not be surprised to see Mortgage Investment Corporations halt redemptions on their investors, in order to stem liquidity issues from investors wanting to pull their money from the fund. Many of these mortgage investment corporations borrow on a line of credit from a bigger bank. Will these loans be recalled? In a best case scenario, we should at least expect an increase in private mortgage rates in order to account for the increased market risks.

As I have said previously, nobody knows how this will play out. I have heard from others in the industry that they expect real estate to act as a “flight to safety” and thus it won’t be impacted. I personally don’t share that same view, but perhaps they are proven correct and my concerns fail to materialize. To be honest, I hope they are right. Nothing is more destructive than a sharp decline in home prices. However, I am well aware there are others desperately hoping for this type of event.

Regardless, I will keep you all updated on how the situation develops. We all know how important Real Estate is to the Canadian economy, irrespective of your views of the current housing market. Now more than ever, we will need to navigate these waters carefully. Stay tuned, and stay safe.

7 COMMENTS


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    Mark

    Hi Steve,

    Could you elaborate more on your thought:

    […] To be honest, I hope they are right. Nothing is more destructive than a sharp decline in home prices. […]

    Why do you see sharp decline in home prices to be destructive?


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      Serge

      Say you are sitting on an $800k house today (which is your retirement plan), and tomorrow it happens to be $600k. That is a completely unforeseen hit to your fiscal life planning from an asset that is historically proven to be a (and quite possibly, the only) safe investment.


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    Mark

    Serge, now let’s say that you’re not sitting a house since you arrived in Canada 3 years ago and you would like to get one. And, not for the sake of making an investment but simply for the sake of living in it (after all, we all need a shelter). Since few years prices of properties in Vancouver (and neighborhood) and have gone, colloquially speaking, “through the roof”. A house, that looks like a house; I would like to differentiate between 1.5M CAD barns – called houses, from proper houses that could accommodate a middle-class family start at 2.5M+ CAD (and they don’t even have a swimming pool!). A mortgage with a typical duration of 25-30 years would require monthly payments of 10k+ … consistently for 25-30 years.

    Tell me, what bad can happen if prices adjust to what the working population of Vancouver area can actually afford?

    BTW: the 800k house you’re referring to where does it exist?


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    Mark

    Steve – I would very appreciate if you could share your thoughts.


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    Abbas

    I agree with you. I believe it all depends on the job market and the situation in U.S. If people not have a job how they would pay the mortgages and other bills. It could be a sharp decline and pressure on panic sale in the couple of months. Bank of Canada already bought $305 million mortgage bonds this week. Economist & strategist are confused in this unpredictable situation. Some are expecting the economy toward the depression; hope not reach at that point. Who would take the advantage of low mortgage rate in this situation; new mortgage applicants, renewals, variable rate mortgagers, financial institutions and the private lenders. It would not help to stimulate the economic activity except to generate more debt & risk. Housing market is already 30% over priced in GTA & Vancouver. In this situation Govt of Canada take revolutionary actions;
    1-Write of all unsecured debts from all Canadian (Credit cards, line of credit)
    2-Defer mortgage payments & rents for six months (Adjusted accumulated mortgage balance in the further years i.e extend time 25 years to 30 or 40 years)
    3-Give relief money to low income families to keep maintain their daily life
    4- Not provide any bailout to any medium & large corporations because soon we will see that large corporations contact to govt to bailout from this situation.

    Even it takes months to recover all losses if coronavirus wipe out within couple of weeks. This time situation is more worst than we think. What happened in future, God better knows.


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    Remy

    Before the coronavirus I was planning on purchasing a new condo under pre-construction and putting a deposit at the end of this month.My question is,are you seeing people pull out of their contracts and loosing their deposits out of fear that the bubble might burst across the country making property values tank everywhere.I would greatly appreciate your recommendation for I am a first time buyer:should I go ahead and benefit from the pre-construction price or should I hold off a couple of weeks or months thus possibly loosing out on the saving.


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    Alan

    Hi Steve
    I have entered in an agreement of purchase for a townhouse in Brampton (651K) with closing scheduled on 30th April 2020. My office had started layoffs and had declared furlough from April 6th. And similar situation with my wife’s workplace as well. I am ok to lose the deposit for the inconvenience I caused to the seller, Can I walk out of the agreement in the given circumstance. I got documented proofs for all these events related to the unstable jobs at this point. Your thoughts on this will be greatly appreciated.

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