Why Prices have Stopped Hemorrhaging
You’ve seen the monthly releases by the Real Estate Board of Greater Vancouver and you’ve heard the term passed without a second thought. “Increased Affordability” has been pointed to as one of the reasons that people are buying. One of the reasons why now is a great time to buy. And One of the reasons why Sellers should not be taking their properties off the market but should be actively seeking to get a deal done.
But have you seen any hard numbers or data to suggest that this is true? Has the term been validated in your eyes? Well, it is about to.
The first piece of data we need to look at is the Benchmark Prices provided by the Real Estate Board of Greater Vancouver. These benchmarks are calculated to represent the average style and quality of home for the region.
Note that prices for this benchmark have risen with several small peaks and troughs before coming to what many consider THE peak before a rapid descent which has flatlined just this past January. In fact, aside from apartments, the values seem to be struggling to go back up again. What would cause this? Certainly not a lack of supply as we are or were near historic highs on the supply side (active listings) while we are still at or near historic lows for the demand side (sales).
I did a post on the supposition that easy credit was responsible for the prices rising. Low interest rates allow buyers to take on more debt easily on an easy to digest monthly basis. When I say “easy to digest” I mean that taking on $500,000 in debt sounds scary but $2300 per month sounds just dandy for many.
So let’s now take a look at mortgage rates:
Rates have been up and down over the past eight years but what we really have to look at is not just the Prime Rate but what Buyers can get from the banks. In this case the data comes from TD Canada Trust and we can clearly see that while we are at “Historic Lows” for the Prime Rate the only people really benefiting from that are those who bought when banks were freely giving out Prime Minus mortgages. That practice stopped in September of 2008 when the best rate one could get was a variable at prime. Today the best rates available are Prime Plus. But even at the best rates today we can see that the lowest variable rates are equal to ones available in 2002 and 2004 (and only for brief times then) and we also see that the currently offered fixed rate mortgages are at historic lows so if you are on a variable or a new purchase it may make sense to lock in for you.
Yes, rates are low. As low as they have ever been. And prices are down from highs seen in April 2008. Significantly down. So how does all this come together and affect affordability? Take a look at this monthly cost chart. It is based on the entire amount being financed for simplicity and does not take into account CMHC fees to do so, nor property transfer tax. It is purely applying the benchmark prices seen in the first graph to the mortgage rates in the second graph.
Well look at that! Monthly carrying costs peaked at the same time as prices, but while those prices may be back to Early 2007 levels we see that the carrying costs are actually even further back to Early 2006 levels. And what was happening in early 2006? Prices were rising.
But there’s more. Much more.
You see, not only are we back to low rates and increased monthly affordability but in April/May 2007 the Federal Government madndated that CMHC lower its required down payment from 25% to 20% so that buyers wouldn’t have the extra costs of mortgage insurance. 20% is still a lot of money but 25% is a whole lot more. Let’s take a look at each property type’s (Detached, Attached, and Apartment) Benchmark and apply it to the downpayment required to avoid CMHC insurance and the monthly costs.
Our Downpayment requirements are back to October 2004 levels while carrying costs after that downpayment is made is back to November 2005 levels.
Our Downpayment requirements are back to April 2005 levels while carrying costs after that downpayment is made is back to March 2006 levels.
Our Downpayment requirements are back to June 2005levels while carrying costs after that downpayment is made is back to March 2006 levels.
In all three classes we are seeing that while prices have dropped back two years, affordability on a monthly basis has actually fallen back almost 4 years. And what happened to prices four years ago? They rose. A lot. Even in the face of many who thought they could not go any higher.
Wait a sec! Is he telling me now is a good time to buy?
No. I could not be more clear than that. I am not telling you now is a good time to buy. I am merely illustrating what has happened to mortgage rates and prices as a way to further illustrate my point that relaxed credit has had on prices. Whether it is a good time to buy is a decision only you can make. I would like to point out one very big BUT. These rates and changes to the CMHC rules were a stimulus package by any other name and while they are very good right now they will not be around forever.
You cannot stretch yourself to the max based on the current rates.
Doing so will only open you up to a world of hurt when the rates do go back up. When that will happen, I have no idea. If we pull a Japan then we are in for a very long and slow decline with interest rates remaining low and prices slowly bleeding down to where they meet or beat rental costs. If rates fly up at any point, obviously prices will plummet as affordability goes out the window. I cannot prognosticate what will happen to the rates over the next year. I can only advise you to consider all the possibilities.
But if the home is special to you. A one of a kind beauty and a place you are looking to spend some seriously long time in (like your parents likely did with their home) and you can afford more than what it will cost you to live there than now may just be the perfect time to go get that home.
Prices may go up or down. You don’t care. You can afford it and are looking to the horizon.
Congratulations. You are the perfect buyer for today’s market.
Now to the sellers who are sitting on the fence about listing their home or have recently pulled it off the market…
What are you doing?
Seriously. Do you think you know the market is for sure going to go up and you will get more next month/year? That’s a pretty big gamble, don’t you think? Prices for your home are near historic highs (down quite a bit from the peak but stil way up from even 10 years ago) and the government has enouraged buyers to give you more money for your home today. Sellers often need to sell… but buyers never have to buy. They just want to or believe it is a good move but they never have to.
If you truly, deep down, believe that conditions are going to improve even more beyond today’s outrageous fortune then continue on your way. If, however, you have any doubts then it’s time to get serious aout selling. Don’t be like that guy on “Deal or No Deal” whose greed gets the better of them and they miss out on the million then fall into despair all the way back to a penny. Not selling when you have your doubts is a very big gamble, indeed.
About the Data: The Benchmark Prices come from the Real Estate Board of Greater Vancouver. I want to thank Vivian Hatiras of TD CanadaTrust, a mobile Mortgage Specialist, who can be reached at 604-868-0415 for providing the historical mortgage rate data. The two were then analysed by only myself and based on 30 year amortizations with 12 monthly payments. None of what is contained in this post should be construed as stern advice. Your situation is your own and is unique. If you have more questions about this please feel welcomed to call me or Vivian. And, as always, your comments are most welcomed and encouraged.
Vancouver, BC 
What I find interesting is that the US, which has taken a beating for “bad mortgages” has at its base a much safer mortgage system than we do. Most mortgages in the US are 30y fixed. If you can afford the monthly payments, you can afford the house. Not so in Canada. Our “conservative” choice is a 5y fixed and plenty of people opt for a fully variable rate. We use different terms than the americans do, but in american speak all Canadian mortgages are “ARMs”. The stuff of nightmares.
We might pull a Japan. But I’m not getting that vibe. Deflation doesn’t really seem to be happening. Sure, we had a couple months or quarters of deflation, but that was entirely due to plummeting commodity (mostly oil) prices. Core inflation (excluding energy) remained positive throughout. Now that commodity prices are back within reasonable bounds, I don’t really think we’ll see any deflation in the overall CPI. Add all of the loose money policy we’re introducing and I can certainly foresee the need for a significant ramp up in interest rates in 5 years time to control inflation. Those who buy now may get burned when it comes time to renew the mortgage. I wouldn’t be surprised if the rates in 5 years are double what they are today. Of course the inflation that will happen before the government gets serious about raising interest rates will help them out a bit (by reducing the mortgage principal in real terms). But it still seems awfully risky to be buying on the basis of these unsustainably low mortgage rates.
You raise a couple of interesting points, Chris. First of all the fact that our fixed rates are typically taken out in 5 year terms which really is like an adjustable rate. True. Not the most conservative thing to do. You can get 10 year terms if you’d feel more comfortable. But I will counter that with the historic proof that adjustable rate mortgages have beaten fixed rate mortgages over the amortization of any loan. And what has shown to beat the variable rate mortgage? One year fixed rate terms. See this link which compares 1,3, and 5 year terms on fixed rates: http://www.canequity.com/mortgage_rate_history.stm
The more security you want to take that your rate won’t go up over the long term the higher the rate you are going to pay over that term. Looking at US 30year rates I see they are at 5.17% which is about 1.25% above our 5 year fixed rate and 2% more than the latest variable rate my client got (prime+0.6, or 3.1%).
Whenever you go variable, also, you have the ability to lock in at no penalty to the fixed rate if you fear rates will rise. This has been a beautiful safety net for many to have on hand though I know no one who has actually done so. I do know several who went fixed with conservative principles in mind and are now cursing themselves for doing so. Some are paying 5.25% while I have one client who has an ARM at prime-0.90!
Now, do you just allow your lower rate to afford you to go get that 70″HDTV? No. The conservative thing to do is to maintain the same monthly payments (or better yet, accelerated biweekly, 26 payments a year) and drop that principle down while the going is good. So a year on (today) Fixed rate person will still have 29 years to go while Variable Rate champ has dropped it down to about 17 years.
That said, the potential see-saw in rates is not for everyone and while it has been good to now, no one can foresee where it will go in the future. You say double in 5 years? That would hardly be considered horrific. Prime at 5%, 5 year Fixed at 6.25% and Variable at 5.6%? No sweat for most. Were it to go to 15%+ (unlikely though clearly not impossible as seen in 1981) it would come down to how prepared people are for that possibility. It would not last long and would be a storm that needs to be weathered. And even so it would not be an overnight surprise. ARMs have the ability to lock in. Fixed rate people do not and would face a penalty they may not be able to afford to refinance at a lower rate or at a different term.
That was a quality post, thanks.
Yup that’s a nice post. Your graphs are easy to read as well.
An uptick in prices in the early part of the year seems to be common. See http://housing-analysis.blogspot.com/2009/02/february.html. I am not certain mortgage rates are THE reason for flat prices, though they intuitively have some effect and your data make some debatable argument.
The seasonality of price changes I think has more to do with the re-sale market than anything else. It is an interesting question as to why this is but my hypothesis is that those looking to upgrade will shop early in the season and attempt to sell their existing property later on, when the spring season is in full swing. This holds some water as we would expect these properties to be listed en masse starting in April and May, as the bridge loans start piling up.
Note seasonality is not just a Vancouver phenomenon. Other cities have shown it, the closest is Seattle. I was mildly berated on vancouvercondo.info for merely suggesting prices will be stronger in the spring. My guess is pretty much in-line with VHB’s: prices will be flat until about May and then start weakening again for the remainder of the year. I would bet we lose the “fastest rate of decline” award to Miami but then go neck-and-neck into 2010.
Oh, there’s no doubt about seasonal trends. It’s a worldwide phenomenon. Those looking to upgrade are often window shopping well before placing their home on the market and this has more to do with two human conditions: We like to dream and shop before we commit, and, we know that our home will look better in Spring thereby a better time to list. The key to this whole point, though, is that it is the upwardly moving market. And though they may shop before they buy they will still look to sell before they commit to a purchase. Too many logical arguments against painting themselves in a corner will be presented to them by their friends, family, and hopefully their realtor which will stop them from buying before selling.
And we see that the greatest effect on prices so far has been seen in the detached home market, where supply is limited, and not the cookie-cutter condo market where supply is fairly plentiful. A great term was coined by Wendy Waters on her blog AllAboutCities – “Vertical Sprawl”: http://allaboutcities.ca/condo-units-in-the-downturn-vertical-sprawl which succinctly describes the current condo market. But we have seen that the benchmark and the average amount spent has been rising in the detached market which is a significantly more demanding price range. A drop in interest rates certainly helps tremendously (where an extra $500k of financing is now $1000/month cheaper than just six months ago). More people who thought they were stuck in their condos/townhouses now see the possibility of moving up.
I know two personally in the past month who have sold their condos downtown and bought houses. I also know many more who have bought second (or not their first) condos for their kids and parents to live in. There are more renters who are looking to the market and with the increased monthly affordability and lowering prices on condos t is now getting enticingly close for first time buyers to get their first home and not sacrifice too much of the superficial quality of their rental.
Whether the market will weaken after spring remains to be seen. If supply rises greatly then my bet (from a micro view) is that sales will also rise greatly as prices drop and affordability becomes even better. You want to see the fastest race to the bottom? Have interest rates rise or have Canada experience the same sort of credit lockdown that the US has. We aren’t even close on the capital supply side troubles they are having. Till that happens Miami is in a whole another league.
Then factor in Job losses which drop the city’s median income, and affordability takes another hit. Yes it’s as affordable as it was in 2005 or 2006, but the economy was a whole heck of a lot hotter back then. And weren’t high prices justified by our booming economy? Wouldn’t it be apt to say that prices should be lower than they were in a bad economy than they were in a hot economy?
“Whether the market will weaken after spring remains to be seen. If supply rises greatly then my bet (from a micro view) is that sales will also rise greatly as prices drop and affordability becomes even better.”
We shall see. Rates were low in 2003 as well and prices were a heck of a lot less. What concerns me is that when you do back-of-the-envelope calculations and things are break-even, the only way to tip the decision to the buy side is long-term price appreciation. Evidently many believe this to be absolutely true. Having some business experience regarding what is or is not a “good” deal, the quick calculations invariably need to be significantly better than break-even as the hidden costs almost always reduce the return. Food for thought that the hidden costs of owning will be revealed and the calculations people use will change.
When there is a supply-deman imbalance, as there has been since the early part of the decade, there is no reason to think RELATIVE price changes will not exhibit some form of seasonality. In fact the Jan-Feb numbers indicate prices have stabilized, at least temporarily. But going with this hypothesis it means flat to moderately increasing prices is the BEST we can get and the rest of the year will be back to precipitous price drops again.
When the market is in balance, from what I have seen, there is less seasonality in the numbers. When there is close to flat seasonality, that will be a pretty good indication of some semblance of a bottom. Another bottom sign to look for is low volumes and low inventory. For examples of this I would follow the San Diego market for a forward-looking indicator of Vancouver’s fate. Try piggington.com for some great numbers and analysis on this front.