Parts of Canada’s housing market are showing strain, but one group isn’t buying into dire warnings about the end of a decades-long boom: the bankers writing most of the mortgages.
A number of forecasters, including Moody’s Corp., UBS Group AG and the country’s top housing regulator, are predicting a sharp correction over the next year. Canada’s largest banks aren’t worried: on average, the six largest lenders see price declines of about three per cent over the next 12 months, according to forecasts they use to determine potential credit losses. Bank of Montreal sees no change at all in the nation’s average housing price.
Contrast that with the federal government’s Canada Mortgage & Housing Corp., which is calling for a 21 per cent plunge in prices. UBS didn’t give a specific price forecast, but it named Toronto the world’s third-most vulnerable city to a “sharp correction” in housing prices.
Some of the disparity can be traced back to the data the various groups are working from. UBS and some other forecasters are working from high-level economic and demographic figures that suggest prices are out of line with current trends in income, employment and immigration.
Canada’s banks develop their market views partially from reams of internal customer data -- everything from the number and size of mortgage preapprovals working their way through the system to the flow of money through consumers’ checking accounts.
The trajectory of housing prices over the next 12 months will be critical to Canadian banks’ earnings. A strong property market has provided a reliable earnings stream for banks for decades.
Residential mortgages account for about 40 per cent of the loans at the Big Six, on average, according to a note earlier this year from Canadian Imperial Bank of Commerce. That amounted to about $1.13 trillion in Canadian residential mortgages on the books of the Big Six at the end of July, according to company filings.
“Residential mortgages up to this point have been one of the strongest-growing asset classes, and it is the largest component of their books,” said John Aiken, an analyst at Barclays Plc. “So if that all goes to zero per cent growth, they are going to have a hard time trying to squeeze out growth from other areas.”
The biggest sign of stress in Canadian housing is in the downtown core of major cities such as Toronto, where the market has been hit with a glut of condos for sale and rents are dropping.
But most of the market, including single-family homes, has enjoyed healthy price increases despite a deep recession. In greater Toronto, the average price of a detached house rose to $1.18 million in September, up 17 per cent year-over-year. Some smaller cities and towns have seen jumps of more than 20 per cent.
Housing bulls contend that the numbers make sense. Virus-related declines in immigration and jobs will soon reverse, they argue -- and as long as COVID-19 is with us, homes become more valuable as primary locations for people’s work, education and recreation.
“People are spending more time in their homes, they need more space than they previously needed,” Royal Bank of Canada Chief Financial Officer Rod Bolger said at a conference last month. “Families with children, where the kids were out doing activities all the time, now they’ve been in the home and schooling in the home. So the value of those homes has gone up.”
Bears say that the economic fallout from the pandemic will keep unemployment high for a long time and slow the flow of immigrants that has helped boost demand for homes. That’s part of the Moody’s call for a seven per cent price decline.
“The housing market will no longer be able to escape the poor condition of the labor market as vacancy and delinquency rates rise in 2021,” Moody’s economist Abhilasha Singh said in a report last month.
Toronto, Canada’s largest housing market, was the No. 3 city on UBS’s Real Estate Bubble Index, released last month. The index tracks the risks of property-price bubbles in global cities based on factors like price-to-income ratios, construction levels and gross domestic product.
One of the biggest bears has been the CMHC, the nation’s housing agency and the main provider of mortgage insurance. The group released a forecast in May that predicted an average price of $460,292 in the first quarter 2021. Given the average price of a house in August was $586,000, prices would need to plunge 21 per cent by the end of next March to line-up with the forecast.
While CMHC Chief Economist Bob Dugan officially reiterated that forecast last month, the organization has since suggested there may be room to soften its view. The original forecast was based on data available in April, Deputy Chief Economist Aled ab Iorwerth said, and the CMHC has since learned more about people’s economic reaction to the crisis.
“That has led to some changing of minds,” he said in an interview. “But we are also still facing some of the risks we talked about in April, and I’m not sure we’re out of the woods on those risks.”
While a 20 per cent drop in housing prices would hurt the banks’ earnings, it would be unlikely to damage their balance sheets unless it was accompanied by a sharp increase in unemployment that hurt the ability of borrowers to pay their mortgages, Aiken said.
Even then, the banks are adequately provisioned for potential loan losses and many of their mortgages are insured by CMHC or other insurance providers, he stressed. In most provinces, lenders are also able to make claims on the other financial assets of borrowers, should they default.
Banks also have access to data including the balances of borrowers’ investment portfolios and checking accounts.
“They have an exceptionally solid idea not only what your balance sheet is but also what your spending habits are,” Aiken said. “They have the best information out there.”