It wasn’t supposed to be like this. Our recovery from the Great Recession happened faster than expected, we got in the mood to buy again, and the housing market spontaneously returned to bidding wars and double-digit gains. Experts say we’re in a bubble that’s ready to pop. The question is, how bad will it be?
We’ve seen bubbles before. The last time the market went pffft was in the spring of ’89. The country entered a deep recession, mortgage rates hit 13.5 per cent, and the market was glutted with condos that speculators couldn’t off-load. Over the next seven years, the price of resale houses downtown dropped by 28 per cent. Owning a house was a burden.
The birth of the current bubble-like conditions can be traced back to 2008, when we smugly discovered our market was safe from the financial evils that led to the housing collapse in the U.S. We were intoxicated by good news: speculative investing was comfortingly low, our interest rates dreamy. Neighbourhoods like Parkdale, the Junction and Leslieville were lusted after by young couples and families in want of $400,000 fixer-uppers. The upwardly mobile had ballooning debt and stars in their eyes. Among the singles flooding into sparkling new condominiums were women in their mid-20s to late 30s, a boom demographic. One industry source estimated that they represented 40 per cent of the market, significantly higher than a decade before.
Demand was also driven by new arrivals. Everyone wanted to live here: almost half of the 250,000 people who immigrate to Canada each year settle in the GTA, and for many, the natural course of events is to plant roots by buying fairly inexpensive condos or suburban starter homes—affordable by international standards. For a big city, Toronto was a safe investment and a relative bargain.
Prices briefly flatlined in 2008, the same time city hall doubled the municipal land-transfer tax (which added as much as $10,725 to the cost of a $750,000 property). But the party raged on, and by last July, with Mark Carney declaring the recession technically over, the market resumed its climb. Even the high end rebounded: in Toronto, more than 2,300 homes with a value of over $1 million sold in 2009. From last fall through the early spring of this year, sellers did extremely well—particularly within the high-demand $500,000-to-$1-million range. Buyers, however, had to endure adrenalin-pumping condition-free offers and bidding wars. “I’ve been selling real estate for almost 20 years, and that was the craziest the market has ever been,” says Kara Reed, an agent at Chestnut Park. By the end of the first quarter of this year, the average house price was $427,948, up from the 2009 average of $395,460.
The warning signs of an impending pop are plentiful. The banks, inspired by the perkier economy, began to push their rates up. Jim Flaherty, in a fit of finger wagging, rolled out new CMHC rules that effectively ended real estate speculation by requiring buyers of non-owner-occupied places to make a minimum 20 per cent down payment, up from five per cent, to qualify for insurance. Then Carney announced a possible Bank of Canada rate increase by early summer, signalling the end of extreme low-interest debt. Unless we fall into unforeseen economic peril, rates will only go up from there, likely to double digits by 2020. When current five-year terms come to an end, those borrowers among us who bought houses they could ill afford on 35-year amortizations will either have to find extra money somewhere or they’ll be forced to sell.
While most economists, brokers and market watchers agree the bubble won’t continue to inflate, they’re divided on the severity of what happens next.
The Eternal Optimist’s Outlook
Even realtors agree that prices can’t rise forever, but they espouse a smooth and comfortable plateau theory. With the new interest rates and CMHC rules, more buyers will become cautious and less willing to make unconditional offers in bidding wars. They believe sales will stall but prices will otherwise remain stable and dip only on certain streets. “I’m already seeing this change in behaviour,” says Kara Reed, “particularly because supply is opening up.” (As more owners were determined to sell at the market height, the month of April saw a 59 per cent year-over-year increase in listings.)
In the best-case scenario, the impact of a deflating bubble will be lessened by the segmentation in Toronto’s market. Not everyone is buying million-dollar homes or trapped in long-term, fluctuating-rate mortgages, and many buyers are first-timers taking ownership of new condos rather than overvalued resale houses.
Toronto’s economy, the argument goes, is fundamentally strong and not at all vulnerable to what was experienced in the U.S. Though we have unemployment, we don’t have the kind of unemployment that can lead to a rotten real-estate future. While a car town like Windsor reports about 12 per cent unemployment, our jobless rate is just a little over nine per cent.
Another reason to feel chipper is the steady stream of “safe-haven” money coming from the Middle East and Asia, mainly to buy condos. Though there’s little data to quantify the foreign money, one estimate suggests that Iranians invest $400 to $500 million a year in our market. Arash Bahrami, an Iranian-Canadian businessman who studies the Persian immigrant market, has watched many of Toronto’s estimated 60,000 Iranians buy three or four properties at a time. “Fundamentally, the concept of property ownership—the belief in tangible assets—is very sacred to us,” he says.
Some observers are adamant that what we’re experiencing isn’t even a bubble, and there’s no need to panic. James McKellar, a professor at the Schulich School of Business at York University, studies the residential and commercial real estate markets. “A bubble is characterized by speculative behaviour, and that behaviour is not exhibited in this market,” he says. “People are not primarily buying and selling houses to make money.”
The most convincing argument that we’ll be OK—the argument that’s the most seductive to anyone who has just bought a Toronto house well over-asking—is that this city is ridiculously underpriced. Tell a resident of New York or Paris or London or Vancouver what you pay for a three-bedroom house in a nice enclave of this safe and cosmopolitan city and they will laugh out of disbelief at your great fortune.
The doomsday scenario
Then there are the experts who are convinced our supposed economic recovery is short-lived and will be undermined by record levels of consumer debt. A housing market correction will put extreme pressure on those of us who are barely keeping up with debt. Property supply will go through the roof, and anyone who can’t carry mortgage payments will be forced to sell low or risk foreclosure.
When interest rates fell to 75-year lows in April 2009, the sensible thing would have been to pay off loans. Instead, we borrowed more. Now for every $1 in disposable income Canadians have, we have $1.47 in cold and unforgiving debt. Much of that debt is mortgage debt. In Toronto, the median house price of $373,000 is 5.4 times that of the median household income, the same ratio that existed in such U.S. cities as Orlando and Phoenix just before the market collapsed—cities now rife with foreclosed properties.
One of the loudest pessimists (to some, a realist) is Garth Turner, the incendiary author, financial advisor, lecturer and former Conservative MP. “Every young couple with $10,000 to put down felt it was their God-given right to own granite countertops,” he says. “And that’s just nuts.” Turner’s new book, Money Road: Tools for the Wild Ride Ahead, includes dire warnings of a bubble. For starters, there’s the uncertainty of the economy and the possibility that we’re in a jobless recovery. Then factor in the HST for new buildings, which Turner predicts will be the first in multi-year tax increases. “We’ve allowed real estate to be a vastly, absurdly, delusionally overvalued asset,” he says.
His predictions are echoed by Danielle Park, a financial analyst and portfolio manager. “Behind the boomers, there’s no big bulk of the population that will be able to scoop up million-dollar homes, especially as rates rise,” she says. And she’s one of the few in this debate who pause to do the math on the coming interest rate hikes. Today, our mortgage rate is about four per cent. Let’s assume the rates rise to eight per cent, which is the average of the lows and highs over the past three decades (including the legendary I-walked-10-miles-to-school stories we’ve heard about paying 20 per cent interest 30 years ago). On a $300,000, five-year fixed-rate mortgage, amortized over 25 years, monthly payments are currently $1,578. At eight per cent, they’ll spike to $2,289.
The doom-and-gloomers argue that it’s naive to believe measures like the new CMHC rules will save us from flippers, and that deflation is inevitable. On the scary end of the spectrum, the Bay Street guru David Rosenberg, chief economist at the investment firm Gluskin Sheff, has warned of a possible house price correction of 20 per cent over the next two years. “Home ownership rates, mortgage debt ratios and many home price valuation metrics in Canada have reached the same stretched levels the U.S. did back in 2005 and 2006,” he says.
A drop of 20 per cent wouldn’t quite turn Toronto into Phoenix, where prices dropped by 32 per cent from 2007 to 2008. But the buyer’s market will return, and the rise in mortgage rates will be a mighty disincentive to buy. It took 13 years for the market to rebound from the 1989 plummet. Torontonians with a long enough real estate memory still shudder at the thought.
Bubblethink: Seduced by the heated market, two buyers and two sellers give in to temptation. How the deals went down
Sue Caldwell-Powers, a 35-year-old interior designer, her husband, Tom Brejcha, a 39-year-old marketing executive, and her mother, Jean Caldwell, a 62-year-old administrator at SickKids
Caldwell-Powers and her husband and mother pooled their resources and bought an East York house during the 2008 market slump. They first heard about the place, a red brick detached with a double garage, when it was listed in February of that year. Despite a nasty snowstorm, they trudged out to an open house, placed the only offer, and got it for $560,000, a thousand over asking. The house needed only minimal renos—about $25,000, mostly for a new roof and wiring. When they saw the market take off again in early 2010, they decided to sell. They listed last February for $659,000, and it sold in five days for $740,000. Within six weeks, the family found a bigger house with a bigger yard in Scarborough—owned by the same couple since 1968—and bought it for $650,000. They plan to stay there for at least five years, by which point they hope the average neighbourhood prices will have risen. “We love every house we live in,” says Jean. “But—should I say this?—if we can make some money on it, move on and get a better home, we’ll do it.”
THE ANXIOUS SELLERS
Corinne Pruzanski, a 40-year-old lawyer, and her husband, Joseph Nutzati, a 44-year-old real estate agent
Earlier this year, Pruzanski and Nutzati were living in a three-bedroom semi in Lawrence Park and realized they required more room once their daughter, Evie, grew into an active toddler. They bought a house they loved in South Hill—within the coveted Brown school district—and carefully strategized on how to get the highest possible price for their semi. On the advice of their agent, they hired a stager, who relocated half their stuff into the garage, touched up the paint throughout the house, and recommended they buy stainless steel appliances, which they did. They listed their house for $749,000, crossed their fingers and took off to Mexico for a week. Their agent sent them the occasional good-news text about eager buyers, and the couple came home to three offers, all from young, pregnant couples. The bids came in at 7 p.m. All were unconditional and well over asking, so the decision took all of three minutes. The house sold for $801,550. “By 8 p.m., we were raising a toast with the new owners,” Nutzati says.
Marilyn Piotrowski, a 58-year-old IT project manager, and her husband, Ed Piotrowski, a 55-year-old business consultant
The Piotrowskis lived in the same Lawrence Park house for 15 years, raising their three boys there. After Ed took early retirement last December, they decided to downsize. They put their house on the market in February, and it sold within six days for $1,362,000. They researched smaller properties in the same neighbourhood but were caught off guard by the flurry of the market. They looked at about 40 houses—all were either too pricey or not quite right. Then Marilyn got laid off, and their search took on a new urgency. It was April now, and they had to be out of their place by June. “We were discouraged,” says Ed. “We realized that if a house is listed at $750,000, the sellers actually want $850,000.” A few weeks later, they found the perfect house, essentially a miniature version of their old place. They were one of six parties to make offers and topped the asking price of $779,000 by $70,000. After a couple of sign-backs, they upped the offer to $885,106. It wasn’t the highest bid, but their offer was unconditional and came with a substantial deposit. “It has a fabulous master bedroom retreat on the top floor with a fireplace and a deck,” says Marilyn. “We love where we ended up.”
THE GROWING FAMILY
Corinne McDermott, the 38-year-old founder of havebabywilltravel.com, and her husband, Darcy Fedorchuk, a 38-year-old TV producer
When McDermott became pregnant with their second child, the couple knew they had to upsize from what she describes as their “teeny-tiny semi” in Danforth Village. They put their house on the market last February for $389,900 and started looking. When their house sold six days later for $451,500 (they received eight offers), they raised their purchase ceiling from $650,000 to $700,000 and prepared for a challenging hunt in an obviously heated market. They found one listing, close to Danforth and Woodbine, pretty quickly: a two-storey, detached 1930s house on a large treed lot. They showed up at an open house on a Saturday, its second day on the market, and when they saw the price, $429,888, they thought it was a typo. The couple had to act fast to pre-empt a bidding war. They called their agent and said they wanted to make a bully offer of $100,000 over asking. When the sellers’ agent came back with a request to improve it—a common ploy to get a bit more money from an enthusiastic bidder—they offered an additional $3,000, on their agent’s advice, and got it. “We figure we paid what it was worth,” McDermott says. “We’re just really happy we found something good in a pocket of the city we’d like to stay in.”