If you apply for a standard uninsured mortgage right now, you’ll need to prove to the lender you can afford a payment at an interest rate of 8.14 per cent or more.
The last time that mortgage qualifying rates were that high, we were watching O.J. Simpson try on a glove that supposedly didn’t fit in 1995.
One would expect the fastest rate hike cycle in Canadian history to put a dent in home prices. Indeed, it’s been a rare opportunity for young buyers to enter one of the world’s most overinflated housing markets at a discount.
The last 4.75 percentage points of rate hikes knocked the national average price down 25 per cent from its overvalued peak in February, 2022.
If this year’s selloff was indeed an entry opportunity, you might have missed it, because prices rebounded 19 per cent after the Bank of Canada said it was pausing rate hikes last January.
Now the question is, with mortgage rates at multidecade highs, will homebuyers get a second chance to buy at a discount?
What drives prices in the medium-term
Home prices often move in the opposite direction of interest rates and unemployment.
Mathematically, there’s about a 0.67 inverse correlation between monthly home prices and the benchmark prime rate. (Correlation is a statistical measure of the strength and direction of the relationship between two things. It ranges from 0 – no relationship – to 1 – a perfect relationship.)
There’s also a 0.58 inverse correlation between monthly home values and the unemployment rate, which is slowly trending higher. In other words, as people lose jobs, home appreciation usually weakens – or goes in reverse.
So we should expect prices to stay soft for a while.
But there’s another correlation that matters. The No. 1 driver of housing demand is people. A super strong 0.91 correlation exists between monthly home values and the working-age population, meaning prices go up when the work force gets bigger.
That’s particularly relevant, given Canada just witnessed its hottest working-age population growth since the 1970s.
And as we’ve all been reading in the media, construction hasn’t been keeping up, at least in the places where people want to live the most.
So, if you’re home hunting in a real estate market with positive net migration, know this: If rates stay anywhere near today’s levels or above, and unemployment mounts as expected, you might get a better price – but you may not get as good a deal as you were hoping for.
Some folks are intent on pressing their luck, waiting for the sort of price declines seen in the U.S. during the financial crisis, when they tumbled by as much as one-third. That’s not impossible, but it’s a risky gamble.
Given how rare 25-per-cent-off sales are in Canadian housing and housing’s long-term bullish fundamentals, it could be a gift to first-time buyers if prices even broke January’s low (a 6.6-per-cent drop from here).
And keep the long run in mind. The long-term bullish outlook for real estate assumes the government keeps overstressing our housing market with excess immigration. And it assumes construction continues to fall behind. Both problems should correct themselves in time. If they do, home values may not appreciate as much in the next 20 years as they did in the past 20 years – especially if long-term interest rates run higher because of government overspending.
Bumps in the road ahead
Bank of Canada hikes were supposed to be the “straw that broke the camel’s back,” UBS analysts said last fall.
But for now, the camel’s still walking. Canada’s national average home price is still:
- up 2.4 per cent year-over-year
- double its value 13 years ago
- triple its value 20 years ago
- quadruple its value 23 years ago
But the tides turn when GDP dives. Recession is likely in the coming months. People sense that, and so real estate sentiment remains “glass-half-empty.” Moreover, the number of people forced to sell because of lofty interest rates is incrementally climbing.
National housing inventory has risen for four months straight, and preliminary data from HouseSigma suggest active listings are surging to multiyear highs in some regions (e.g. Greater Toronto) and even record highs (e.g. metro Vancouver).
In short, things don’t look too bullish for home values in the near term. And it’s no secret that Canada’s housing market is already overstretched by almost any metric.
But that doesn’t mean high mortgage rates will crash the party for years. Mortgage rates follow bond yields, and we’d need considerably higher government bond yields for that to happen. No mainstream economists have that as their base case expectation.
Although I must admit, I worry about how much the bond market will penalize the flagrant fiscal irresponsibility of governments on both sides of the border. That has the potential to drive rates meaningfully higher. If it does, and that helps a well-qualified long-term buyer snap up a property at better than 25 per cent off the all-time high, that’s an opportunity that doesn’t come along often.
Mortgage rates stuck in limbo as bond markets await clear signal
Besides a five-basis-point rise in the three-year insured fixed rate, Canada’s lowest nationally advertised mortgage offers stayed put this week. (A basis point is 1/100th of a percentage point.)
Most rates have been in a holding pattern for weeks as bond markets decide whether the Bank of Canada and U.S. Fed are done lifting rates.
Interestingly, investors are starting to ignore inflationary clues, such as the Bank of Canada’s warning that “inflationary risks have increased” and Thursday’s blockbuster U.S. GDP report. That’s a clue that the bond market is starting to see past this last hurrah for inflation.
Underlying inflation trends keep slowly improving. In the United States, core PCE inflation – a closely watched inflation metric that’s more comprehensive than CPI – just fell to 2.4 per cent from 3.7 per cent, the slowest since 2020. Core inflation is at a 21-month low on this side of the border.
Growth should keep slowing in the coming quarters. That means, barring another inflation shock (e.g., soaring oil prices), we should see materially lower mortgage rates sometime in 2024.
Rates were sourced from the MortgageLogic.news Canadian Mortgage Rate Survey on October 26, 2023. We include only providers who advertise rates online and lend in at least nine provinces. Insured rates apply to those buying with less than a 20 per cent down payment or switching a pre-existing insured mortgage to a new lender. Uninsured rates apply to refinances and purchases over $1 million and may include applicable lender rate premiums. For providers whose rates vary by province, their highest rate is shown.
Robert McLister is an interest rate analyst, mortgage strategist and editor of MortgageLogic.news. You can follow him on Twitter at @RobMcLister.
Robert McLister