Hurdles Rise for Entry-Level Buyers

Future-young-buyersResidential real estate relies on first-time buyers, like McDonalds relies on kids loving hamburgers. We need constant demand from young people to keep home prices on the incline.

So what happens when it gets harder for fledgling buyers to qualify for the same priced house? With other things equal, prices should drop to meet that new level of demand. But things are rarely equal.

As many know, two key mortgage rule changes are now affecting young buyers without 20% down:

In the opinion of Genworth Canada CEO Brian Hurley (whose business is impacted by these rules):

“These are pretty dramatic changes, and I think they’re getting close to the tipping point. We see really qualified first-time home buyers with very high credit scores now not meeting the bar because they can’t afford a 25-year amortization. These people should be getting a home.”

RBC Global Asset Management economist Eric Lascelles told the Globe this week:

“I wonder if the drop from 30 to 25 years amortization might be regretted in a decade when interest rates have normalized…”

TD Economics said:

“There is little doubt that first-time home buyers – a market segment that has comprised as much as half of total Canadian sales in recent years – have been the most affected by the tighten­ing in mortgage insurance rules.”

first-time-buyersThe funny thing is, no one really knows how much real estate values will suffer by taking a slice of young buyers out of the equation. The only thing we know is that tighter mortgage rules are supposed to help long-term price stability.

Genworth estimates that the new mortgage rules will eliminate 15-20% of its high-ratio mortgage business. That’s notable because first-time buyers (mostly 25-34 year olds, says CIBC) account for the bulk of high-ratio mortgages.

If we use Genworth’s figures for a rough industry proxy, it’s not unreasonable to expect that at least 10% of first-time buyers could be shut out of the market by rule changes. (It’s good to excise fringe buyers, but not all of those 10% would be “risky” borrowers).

If you assume that up to half of purchases come from first-timers, then overall home demand could slide 5% or more—at least until home prices fall.

So, the mortgage rule effect may sting but it shouldn’t be catastrophic in and of itself. TD, for example, thinks the rules will knock down prices only 5%. Moreover, following rule changes in the past, sales have roared back within just months.

One big question is, how will stricter underwriting feed into other real estate risk factors? Those wildcards include:

  • Interest rates — Rates are the #1 demand-side variable in economists’ home price models. A 1% rise chops the typical household’s buying power by ~9%. As we write this, rate hikes are still a ways off and TD says: “As long as interest rates remain at their current low levels, households still have a strong incentive to borrow and the overvaluation in the housing market will persist.”
  • New Supply — Supply hasn’t overwhelmed demand since 2008, but inventories are slowly rising – especially in some condo markets.
  • Employment — Job growth and wage gains help fuel home values. There is no obvious downturn on the horizon for either factor.
  • Psychology — This is the most intriguing and unquantifiable factor of all. If/when we see three or four straight months of headlines reading “Home Prices Down X%!” buyers will get spooked and additional sellers will come out of the woodwork. How many, no one knows.

Mortgage rules are but one piece of the price puzzle. While Flaherty’s changes alone may not bring housing to its knees, tighter lending will certainly compound any weakness triggered by other wildcards.


Rob McLister, CMT

  1. “These are pretty dramatic changes, and I think they’re getting close to the tipping point. We see really qualified first-time home buyers with very high credit scores now not meeting the bar because they can’t afford a 25-year amortization. These people should be getting a home.”
    This should read “because they can’t afford a 25-year amortization at the current price level”
    This is a problem that is easily solved… By lowering prices. Imagine that.

  2. We bought our first home last year, didn’t pay CMHC fees, and have a remaining amortization somewhere around 16 years today. After we have policies that suitably reward low-risk buyers like us, I agree that everyone else who “really deserves” a house should get some support! If not, all we need is more condos for people to rent while they get their finances in order.

  3. It should not be seen that a fall in prices of say, 30% in some frothy markets and 15% Canada-Wide is a negative outcome. The misallocation of resources to housing through buyers choosing (emotionally) to allocate such a large amount of current and future spending to the purchase of housing at today’s prices hurts the balance of the economy over all. One thing that the Real Estate industry needs to understand is that reduction in the market price is needed to bring balance to the economy and that should not be seen as a negative outcome. People who are in at today’s price have entered at that level on their own choice and should not be felt sorry for. They were warned.
    Comments from Genworth that rule changes will bring market to tipping point come accross like this is a negative outcome. It is not and a reduction in prices in places like Vancouver detached of 40% and condos of 25% would be a positive. Many merchants here in Vancouver are starting to suffer as the debt ATM is being shut off and people are over-extended in their mortgage payments. Combine this with a poor job market and limited income gains, it’s no wonder that the market here has come to a halt.

  4. I think that when first time home buyers obtain their house the responsibility increases be that they have families to care for. Its already tough as its for two incomes to afford a down payment on a $335-$350,000 home. The two changes to the Mortgage rules are really for the current Homeowners,to pay off debt and pay their home. The future is with first time home buyers, and its only making it harder for them.

  5. if they looking for a first time buyer to qualified on todays mortgages rules they hardley qualified for 25 yrs amoritization.if the rate increase that is going to get even more worse.In canada there is no substantial job growth and not even yearly raise you get from your employer,no job stability, no growth in career.so in my opinion there is no reason that market is going to slow down for sure in next two years.

  6. By looking back at the market history since 1987 till now, real estate prices hand no way but to rise no matter what, this our Canadian market

  7. Seeing from your perspective only … How limited.
    People that bought with 40 years amortization 5 years ago now have 6 years remaining. Go figure if their finances are in order …
    Please don’t filter my opinion !

  8. I just don’t get what all the heartburn is over?
    In the olden days (pre-2006), first-home buyers bought a small “starter home”. Then later, after building some equity and having kids, they needed more room. So they sold and bought a larger “move-up” home.
    When the 40 year am came out, they could skip the first step and go directly to the bigger house. Now, people will go back to buying the smaller starter home.
    Which is good news for those of us in the industry!

  9. Killing financing options across the board makes no sense at all. If people are properly qualified and a 40 year mortgage costs the same as their rent, why take away the 40 year amortization? I can’t see how that is good news for anyone.

  10. “I can’t see how that is good news for anyone.”
    Good news for people who can afford a 25 yr amort (i.e. me) – less competition from those buyers who can’t.

  11. Re: Brian Hurley’s comments…
    These are not “dramatic” changes… merely the status quo ante…
    Young people were able to afford houses pre-2004 (back in the old days of 25 year amortization mortgages), because home prices were actually affordable. Amortization period is not the key variable, price is…

  12. Hey, why not have 50, 75 or 100 year amortizations? If people are properly qualified and a 100 year mortgage costs the same as their rent?
    See how absurd the argument becomes?

  13. WRONG! affordability is the key variable. Explain to me why people who are well qualified and have a conventional uninsured mortgage should not be allowed the option of choosing a interest-only mortgage?

  14. If someone meets all lender qualifications with flying colours, who cares what their amortization is?? What is the amortization on your rent payment??
    Exactly.

  15. True, hey?
    Going back to the 25 year am will have first-home buyers, and others, giving homes in less desirable neighbourhoods another look. Rejuvenation!
    Going back to the 25 year am will probably be the best thing to happen since the introduction of mortgage insurance.

  16. For the second year in a row, Macleans Magazine designated Prince George, Canada’s most dangerous city.
    25 year am’s or not, I don’t see anyone giving your hood a glance till Prince George either cleans up or organized crime needs another meth lab.

  17. Wonderful. Let’s degrade the more desirable neighbourhoods so we can rejuvenate the less desirable neighbourhoods. That’s productive.

  18. And I see that other crime hot-spot, Victoria, is #2 on the list.
    Sorry banker, you’ve been drinking the kool-aid.

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