Over the last few years, you’d expect that first-time homebuyers were doing the same type of due diligence when it comes to weighing making an offer on a home – and negotiating a mortgage around that offering price – in the same way as first-time homebuyers have been doing for generations. But previous generations weren’t going to learn what it means to be ‘underwater’ with a mortgage, while anyone who was doing their homework over the last 5 years almost certainly will know what it means.

Some people evaluated the risk they might be at if interest rates rose, and moved ahead with their decision to buy the home and assume the mortgage they have today. Others will have reconsidered and decided they didn’t want to take on that type of risk. There may well be 20-20 hindsight types in either group who’d wish they had acted differently, but these days it is probably those who overextended themselves with a mortgage that is going to become more expensive to service who have more regrets.

This is something that any informed and conscientious realtor will want to be proactive in talking about with clients who are hesitant to buy a home. Working with clients who are selling a home doesn’t create the same type of need for a conversation around this, but interest rates and other factors are keeping sellers on the sidelines more now as they wait for home prices to rise again before listing. This in turn affects homebuyers with fewer homes on the market pushing up prices on the ones that are. Here at Real Estate Leads our online real estate lead generation system is an excellent way for realtors to give themselves a real advantage with new client generation.

Getting back on track with our topic here for this week, there are estimates that it is near ¾ of a million purchased homes in Canada that may be at risk because of changes to rates, and so let’s get into the details of all that.

Variable Rate? Brace Yourself

Many borrowers who took out variable-rate mortgages at the peak of the housing market frenzy in 2021 and early 2022 may need to resign themselves to higher payments next month or even have to make a lump-sum payment for their mortgages. This is because the fixed monthly payments that buyers would make with a variable mortgage will have them facing ‘trigger’ rates this fall, where an increase in payments becomes unavoidable.

Industry estimates are that this may apply to approximately 15% of variable-rate mortgages in Canada, and that works out to something in the vicinity of 750 thousand homes. So here you may be asking what a trigger rate is exactly; it is the point at which interest payments constitute the entirety of a monthly mortgage payment, and now the borrower is not paying down even the smallest part of the principal they borrowed. This will be its own cause for concern, but it’s important to know that the bigger issue is that Canadian lending regulations don’t allow for this.

So what will happen is these individuals will receive a communication from their lender giving them one of 2 options; either increase their monthly payment or make a lump sum payment against their mortgage to lower the amount owing. Both are going to be tough options for a lot of home buyers who have overextended themselves. Some may also have the option to switch to a fixed-rate mortgage but the risk there is they end up locking themselves in at unnecessarily high rates.

This is also something that realtors can be assertive in informing clients about, even if they’re not working with them on the purchase of a home at this time.

Rock-Bottom Rates Gone

$260 billion dollars is the estimated value put into variable-rate mortgages between March 2021 and February 2022, and with an average interest rate of 1.58% during that time it is not surprising at all that is the case. But if the BoC raises its key lending rate by anything more than just ONE more percentage points (100 basis points) then the average of these mortgage is set to hit its trigger rate immediately thereafter.

Guaranteed? No, but very likely if you read into what economists are saying. The Banks has bumped up the rate 4x this year already and we still have a third of it to go as we move towards entering Fall 2022 in less than a month’s time. So from there let’s consider that the bond markets are pricing in a 75-basis-point rate hike, and look for this on Sept. 7 when the BoC makes its announcement. Some believe it may end up being a full 100 basis points.

RBC is also saying it has in the vicinity of 80,000 mortgages that will hit their trigger rate with the next few rate hikes, coming with an average payment increase of $200 per month or so. Borrowers may have passed their mortgage stress test, but this still has the potential to be very problematic for many owners and especially those struggling with inflation in Canada as it is.

The overhead reality in all of this is that we’re going to see a share of mortgage borrowers that are exposed to fluctuating interest payments from month to month, and we’re going to see that share be at alarmingly high level at a time when rates are rising quickly.

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Part of the reason that there is an insufficient supply of housing in Canada is because there are simply more people wanting a home than there are ones available for them to buy, move into, and live there. Immigration is an important part of Canada and has always been that way considering we are very much a country of immigrants and in the big picture we’re better for it. But immigration does put strains on society, and particularly with regards to housing, healthcare, and infrastructure. New housing starts can’t keep up with the demand, and the demand is growing exponentially larger all the time.

We also know that the Canadian housing market is in a correction right now, and that while falling median prices for homes isn’t something that existing homeowners or real estate agents are going to want to hear of. But at the same time if you’re going to be fair and objective you’ll have to say it’s a very necessary correction given what has happened over the past 5 years and more. Even real estate agents will agree with that, and while a correction means houses are selling for less that certainly doesn’t mean that fewer of them are being sold.

Realtors who want to gain an advantage in what is a very competitive industry will want to sign up for our online real estate lead generation system here at Real Estate Leads. It’s an excellent way to be better with new-client prospecting and be building the base of your business at all times, and it is the best way to be fast-tracked for meeting people who are genuinely looking to buy or sell a home. But enough about that and let’s move back to discussing how immigration is likely preventing a market crash of much larger proportions.

Decisive Demographics

A prominent economist is saying that the Canadian housing market won’t have that outright crash due to steady demand from immigration as newcomers to Canada are helping to support the property market through its current downturn. The indication is that the flow of new permanent residents is already rebounding from lows seen during the pandemic and are on their way to record levels if Canada’s updated immigration targets are going to be met.

So yes, Canada is in the middle of a steep housing correction and while the cycle hasn’t played itself out in full yet, no one believes we’re going to see the type of prolonged spiral seen in the US during the 2008 financial crisis. And the primary reason for that is the demographic demand for housing in Canada is strong and becoming stronger all the time.

Let’s remember that the number of Canadian households is forecast to increase by 730,000 by 2024 as we add an average of 240,000 new households annually. Immigration is a fundamental part of the increase, and Canada is aiming to bring in a record 1.3M new permanent residents with 555,000 new households over the next 2 years or so. The country’s population is growing at a pace that is double the average one for an OECD country over the last 10 years.

Household Sizes Shrinking

The rapidly increasing population is combined with shrinking household sizes. Between 2016 and 2021 the average household size declined by 0.02 people, going along to an increase in total household numbers by 30,000 each year. And what that does is strengthen demand for housing and powerfully counteract sliding sales and prices to put a ‘floor’ under the correction. This will prevent median home prices from declining TOO much, and that has to be good news for homeowners.

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When Canada’s current Liberal government introduced the mortgage stress tests a few years back, the impetus behind it was legit and honourable. It was to prevent buyers from getting in over their heads with buying a home, and particularly if said home was truly unaffordable for them in the bigger picture. Especially if their income levels made it likely that they’d be in real financial difficulty if interest rates were to rise considerably anytime in the foreseeable future. Which is of course exactly what’s happened over recent months here in 2022.

Can we assume that there are many couples and individuals out there who have been saved from being in a predicament right now because of those stipulations? Absolutely, but there’s also evidence that suggests that the mortgage stress tests haven’t been as effective in the way they were intended either. It’s interesting to note all of this, and especially as those interest rate hikes have come at a time when the market is cooling based on a number of contributing factors.

For a real estate agent this is a trend that is interesting to look at as something of a third-party observer, and most will say that the mortgage stress tests have been worthwhile and that it’s important that prospective buyers have a very firm understanding of what they can really afford when beginning to work with the realtor’s preferred mortgage broker. Good realtors always work to make their clients entirely informed about everything related to buying a home, and here at Real Estate Leads our online real estate lead generation system is an excellent way of ensuring they have the clientele base they need.

Turning back to the topic at hand, let’s look at how the mortgage stress test and its realities are actually playing out here in the 3^rd quarter of 2022 and how things haven’t necessarily played out as planned. Because with mortgage rates now north of 4% and 5%, and very likely approaching their peak for this rate-hike cycle, it is fair to ask if changes to Canada’s stress test are needed.

Follow England’s Lead?

Earlier in August the Bank of England did away with is mortgage affordability stress test, and some industry experts wonder if it might be time for Canada to do the same. What these tests do is require both insured and uninsured mortgage borrowers to prove they will be able to meet monthly mortgage payments based around a rate of 5.25% or two percentage points higher than their contract rate—whichever of the two is higher. It is common these days for borrowers to be stress-test at rates that are at or exceed 6% and 7%.

Here in Canada the stress test for insured mortgages (ones with a sub-20% down payment) was first introduced in 2016, and it was then followed up with the Office of the Superintendent of Financial Institutions test on uninsured mortgages, or those where the down payment exceeded that 20% number. The idea was to logically assess risks seen by government and regulators where high household debt was meeting high real estate prices, and then being joined by the historically low interest rates that we have seen in Canada for a long time up until recently.

But here we are now with home prices dropping across the country, and being way down from the peak reached earlier in February of this year. At the same time interest rates have gone up significantly as the Bank of Canada tries to reign in record inflation rates that have some worried about a repeat of the 1980s.

Lock Out

Ask folks at Mortgage Professionals of Canada and they’ll tell you that with the current market realities the mortgage stress tests are actually working to lock Canadians out of the market. 2020 and 2021 saw much in the way of opportunities for buyers to get into home ownership with locked, fixed money, but these buyers were blocked from doing that by the stress test being so much higher than the actual available rates. Therein lies the crux of the problem, and although that might be less of problem now with lower median home values the potential for it being problematic again is something to consider.

Variable versus fixed-rate mortgages becomes an issue too. Fixed-rate does offer homeowners more stability on their mortgage payments, but qualifying for these mortgages was more difficult until recently. You would have a typical fixed-rate mortgage of 4.45% stress-tested at two percentage points higher—6.45%. The wealthier might have no problem with trading extra cash for security, but for more shallow-pocketed first-time home buyers who wanted into the market it wasn’t such an easy choice.

And with stress test qualification rules, fixed rates started rising well ahead of variable rates earlier this year and this forced many borrowers into variable rates. The reason being that was all they could qualify for. The Canada Mortgage and Housing Corporation (CMHC) has data that shows nearly 60% of mortgages taken out earlier this year were variable-rate products.

There was a forced shift to variable-rate mortgages simply because would-be buyers were being stress tested at 5.25%. Then when you have the Bank of Canada hiking interest rates by 100 basis points on July 13, those variable-rate mortgages are looking much less desirable. Some feel that the Department of Finance and OSFI should be re-calibrating the exact requirements of the mortgage stress test, and there are many in the real estate business who would concur that is in the homebuyer’s best interest in the bigger picture for both them and the real estate market as a whole.

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Real estate industry experts have been telling us all that a market correction was inevitable based on the factors leading to meteoric home price raises that have been seen over the past 4+ years. That is on top of less-intense rises that have been occurring for much longer than that, and with ultimate reality of it all being that home ownership is moving out of reach for increasing numbers of people. There is fallout of all different sorts when something like this happens in a market, and especially one that is the reflection of a very basic human need for a roof over your head.

So the current market correction is a good thing in as far as more people being able to afford homes, but the flip side of that sees people who bought homes sometime in the last few years and may now be carrying a mortgage on a home that is worth quite a bit less than what they paid for it. You may not be ‘underwater’ in the same sense if that home is in a desirable location like Vancouver or Toronto, but for others it’s going to be a concern. There’s also homes that might have gone on the market when prices were higher that are going to now be rented out until the market cycle swings the other way again.

The last part of that won’t sound good to anyone who works in real estate, but to that end our online real estate lead generation system here at Real Estate Leads is an effective means of giving realtors a leg up on the competition when it comes to obtaining new clientele. That may be something that’s more needed than ever, and it has long been known as an especially good investment for agents who are new to the business.

Moving back onto topic, let’s look at the recent predictions coming out that are suggesting that housing market price declines are expected to continue dropping. Not just to the end of this year, but that they’ll be continuing to drop right through 2023 too.

15%? Underestimate

The forecast we’re referring to has the average home price in Canada declining by nearly 25% by the end of 2023. And that type of a decline is remarkable for sure considering it was only in February earlier this year when the peak was reached. This would signify a real accent on the ongoing housing market correction, and a sharp one at that. Especially when you consider that multiple reputable sources had their estimate as an approximately 15% drop that was to occur.

The reasons the drop is foreseen to be even bigger now is because of weaker housing data and changes to monetary policy that have gone much further than previously anticipated. With interest rate hikes from the BoC being front and centre there. In July the bank raised its key interest rate by a full percentage point in July, making it more expensive to borrow the money buyers need to have mortgages on the homes they’ve purchased. Further increases are expected this year, and that’s a big part of why these predictions are the way they are.

4% Drop Month-to-Month

We see as well that housing prices have dropped by more than 4% each month since February, at a time when then national average home price set a record by reaching $816,720. We’re also seeing that prices are still expected to be above the pre-pandemic level at the end of 2023, and the prediction is that the largest price corrections are going to occur in Atlantic Canada and PEI, Nova Scotia, and New Brunswick in particular.

We can also expect the upcoming economic slowdown working to ease inflationary pressures to the extent that the Bank of Canada may begin reversing interest rate hikes, and this will help allay some of the fears of those who have the most to lose if median home prices decline too far.

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People put homes on the market for any number of many different reasons, and that’s true at any given time. But what occurs is that there are specific factors that come into that decision based on the current environment paired with the nature of the sellers’ prerogatives. This is nothing new, but a recent article on Bloomberg Business stated that the number of homes that have been pulled off the Toronto real estate market is shockingly high. It doesn’t take a rocket scientist to understand the primary reason this is happening – dropping median home values across the country – but what may be more noteworthy is the way this part of the ‘correction’ may actually be pushing the prices for homes still on the market higher.

How that works won’t be difficult to understand either. Fewer homes on the market along with lower market values for them will mean the homes remaining on the market will be listed at lower prices. That much will sound appealing for home buyers, but with more prospective home buyers than ever before in Canada the bidding on those homes may well take them up to the pricing levels that were considered ‘inflated’ in the first place. This will always be the case in hot markets like Toronto and Vancouver where the desirability factor never abates and it seems supply will never catch up to demand.

For a realtor this can go either way in as far as their fortunes are concerned, and how well they’re able to make a viable career out of being a real estate agent in 2022. Having mass numbers of homes be de-listed isn’t going to be a good thing for any of them, but here at Real Estate Leads our online real estate lead generation system is very beneficial for giving realtors the means of drumming up new clientele no matter how the market is going or which area of Canada they are working as a real estate agent.

That’s the positive slant for now, but let’s look at this de-listing trend for homes in Toronto.

Waiting Game?

Toronto-area real estate brokers are saying one thing is very clear here now in the summer of 2022 – more would-be sellers are choosing to delist their homes in the face of a cooling housing market and sinking prices. There has been a very large increase in the number of cancelled listings compared to last year, along with different rationales for why a homeowner would be choosing to delist their home.

In a best-case scenario for prospective buyers there are some who are taking their home off the market to re-evaluate and / or re-list at a lower price. This will cover the majority of owners who are selling because they need to sell, and that can be the case for any number of reason but most of the time it is related to their employment or new family realities. In the industry this is regarded as a ‘sign of mis-pricing in a slower market’ he said.

Fewer in number but still relevant in this segment of the trend are homeowners who’ve simply decided they no longer want to sell their home and are going to remain in it for the foreseeable future. There are also those who find themselves in a position where they’ve bought a new property, but selling their existing home and getting what they need for it isn’t happening. This forces them to back out of the new property deal and subsequently delist their current house from the market.

Different tactics are part of this too, with some owners re-staging or re-photographing their home, or deciding to offer higher commissions to buyers’ agents.

Directly Related to Sales Drop

There’s been a real slowdown in the Greater Toronto Area real estate market, and the reality is that most homeowners who don’t 100% need to sell are probably thinking that it’s best to wait until median home values rise again – which they almost certainly will for all sorts of firmly established reasons that we’ve talked about at length in previous entries.

TRREB data for June indicated home sales went down 41.4% year-over-year and the average selling price declined for a 4th month in a row to $1,146,254. This works out to a drop of about $200,000 compared to the record-high average selling prices seen in February.

We can also look at the many investors who will be delisting properties because of the fear of diminished returns, and there are many that can afford to ride this out – and will. The only consideration might be once they start refinancing, or once they get hit with this higher rate increase. But as of now, it would seem they don’t have anything significant preventing them from holding on to the bulk of new condos built in Toronto. They will continue to rent them out for now rather than having them on the market as they may have earlier this year or last.

As of now, we’re not seeing those investors being highly leveraged and distressed.

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