Apart from modest overvaluation — and a cautionary note about overbuilding in Montreal and Toronto — Canada’s housing markets largely align with underlying demographic and economic drivers, according to the Canada Mortgage and Housing Corporation’s (CMHC) House Price Analysis and Assessment framework, released Nov. 24.
The framework evaluated the overall Canadian housing market as well as the Vancouver, Calgary, Edmonton, Toronto, Ottawa, Montreal, Quebec and Halifax census metropolitan areas (CMAs) for problematic conditions. The CMHC assessed four key risk factors — overheating, price acceleration, overvaluation and overbuilding — for their presence, intensity and persistence.
In the short term, periods of slight overvaluation can occur without being problematic as house prices fluctuate around fundamentals, says Bob Dugan, chief economist, CMHC. The risk factors tend to be more problematic in combinations, he says.
Long-term overheating, which is when demand significantly outpaces supply, and price acceleration beyond what fundamentals support, potentially fueled by speculative activity, can lead to overvaluation. In turn, overvaluation can spur overbuilding, which can cause a price correction.
“At the national level, other than a modest amount of overvaluation, we do not detect the presence of other risk factors such as overheating, price acceleration, and overbuilding,” says Dugan. “Risk of overvaluation is most evident in Montreal and Quebec, but the trend is improving. A modest risk of overvaluation is also present in Toronto, Calgary and Halifax.”
CMHC’s findings run counter to the concerns expressed by a number of commentators that the housing market might be due for a price correction. Concerned commentators have pointed to steady house price index gains outpacing those in Australia, the U.K. and the U.S. since the recent recession.
The reason for different opinions on the housing market, says Dugan, is that it’s difficult to assess, especially given some of the mixed signals the data is sending.
For example, since 2010, the real estate market has recorded balanced supply and demand, which would lead observers to expect price growth to be in lockstep with inflation, he says. Instead, national MLS price growth has exceeded growth in overall consumer price index almost every year since 2010, a trend that has continued through the first nine months of 2014.
The mixed signals prompt a closer look at the regional data, Dugan says, which show variances in price growth and levels across the country. At the low end, year-to-date price growth is -1 per cent in the Quebec CMA. At the high end, year-to-date price growth is 6.3 per cent in the Vancouver CMA and 8.1 per cent in the Toronto CMA.
“This underscores the importance of drilling down to smaller geographies in order to get a true picture of price performance,” he says.
In Toronto, the growth of house prices outpacing the growth of real personal disposable incomes is the main cause of overvaluation. However, a few recent developments have bolstered housing demand there: a moderation of home price growth since late 2013; increasing incomes since early 2014; and population growth in the 25 to 35-year-old demographic — a major contributor to first-time home-buying activity — also since early 2014.
Montreal and Quebec face a high risk of overvaluation due to price growth exceeding personal disposable income growth since the early 2000s. Since 2012, price growth has also exceeded growth in the 25 to 35-year-old demographic.
The CMHC’s framework results suggest the risk of a housing price correction is low, says Dugan, but the framework assumes that the market will continue to behave much like it has in the past. One factor that could alter this outlook is the risk of overbuilding.
The framework found that Canada doesn’t have overbuilding now, he says, but adds that it’s important to monitor completed and unsold inventories.
Montreal and Toronto currently have completed and unabsorbed inventories in line with and below long-term averages, respectively. However, the cities have elevated numbers of units under construction relative to their populations.
In October, 2014, Montreal had 15,754 units under construction, 10,638 of which were condominium units. As of 2013, the CMA’s population was 3.98 million. In the third quarter of 2014, Toronto had 68,663 units under construction, 53,887 of which were condominium units. As of 2013, the CMA’s population was 5.95 million.
The CMHC says overbuilding could occur if units are completed but not sold, which builders can address by directing demand toward completed and unabsorbed units as well as unsold units under construction.
“If that happens, we should be able to manage those inventories,” says Dugan, “and going forward we don’t feel there should be too much of a risk of overbuilding in Canada.”
The information released Nov. 24 marked the first phase of the CMHC’s House Price Analysis and Assessment framework. Reporting will occur on a semi-annual basis starting in Q1 and Q3 of 2015, with updates available in the CMHC’s Q2 and Q4 Housing Market Outlook. The CMHC will release additional market-specific information as it becomes available.
Michelle Ervin is the editor of CondoBusiness.