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BMO: Home Prices May Deflate But Likely Won’t Pop

inflated-housing-marketCanada’s housing market is more like a balloon than a bubble, writes BMO Capital Markets in this report.

It should “deflate slowly” in the absence of a “pin.”

That “pin” (catalyst) could be one of the following, says BMO (our comments in italics):

  • An approximately 400 bps increase in mortgage rates (BMO’s Sal Guatieri told CBC today: “We tend to rule out that shock.” But his report notes “Even a moderate two-percentage-point increase to more normal levels would put some strain on affordability and slow the market.”)
  • Major job losses
    (BMO is talking on the order of 400,000+. It adds: “Unless Europe’s credit crisis worsens materially, a recession is not in the cards given current low interest rates.”)

  • A re-acceleration of home prices and mortgage borrowing
    (especially without corresponding income gains)
  • A halt or reversal in foreign investment
    (BMO says: “…Due to a lack of data, no one knows for certain how large a factor this has been.”)

BMO shares some other notable stats as well:

  • “Average prices have grown more than twice as fast as family incomes since 2001.”
  • “…Elevated price-to-income ratios do exist in four major cities: Vancouver, Victoria, Toronto and Montreal.”
  • “…The typical homebuyer still spends just over one-third of disposable income on mortgage payments, a share that’s just modestly above long-term norms.” (As a rough rule of thumb, for every 1% rates rise, mortgage affordability drops by 9%—assuming other factors [like income] are held equal.)


(Chart Source: BMO; Click to enlarge)

  • “The homeownership rate has climbed about four percentage points in the past decade to around 70%”
  • “Delinquency rates have remained very low even in periods of deep recession and financial turmoil” (including double-digit mortgage rates and unemployment in the early 90s)
  • “Low interest rates should hold affordability in check for some time, allowing incomes to catch up with higher prices” (that’s speculation of course)
  • “…About half of all new condos in the GTA are purchased by investors.” (GTA and GVA vacancy rates are miniscule [near 1%])
  • “As interest rates rise, most homeowners with variable rates will lock in at still very low borrowing costs.”

BMO concludes, “…The national housing market appears somewhat pricey, but is far removed from bubble territory.” BMO uses the word “national” because that statement does not apply everywhere.

Rob McLister, CMT