Bankrate.ca

 

September 2012

 

Title: What to do in a housing correction?

Subtitle: Even if a large house price drops are coming, hanging on may still be your best option.

 

Housing sector data were mixed last month, despite warnings that worse may be coming. Existing home sales activity, as measured through the Canadian Real Estate Association’s Multiple Listing Service, which is often a precursor for selling price shifts, fell by 8.9 percent in last month, compared to the same period last year.

 

“August’s sales figures provide the first clear indication that regulations aimed at cooling the market are working as intended,” said Gregory Klump, CREA’s chief economist. “The broadly based decline suggests that some buyers may no longer qualify for a mortgage, now that amortization periods for high-ratio mortgages have been shortened.”

 

Housing starts for their part actually rose to an exceptionally strong seasonally adjusted annual rate of 224,900 units compared to 208,000 in July, according to the Canada Mortgage and Housing Corporation. Mixed data like this would normally not be too surprising. However a slew of economic experts, including several bank economists have been

saying that a correction is in the offing.

 

The case for a decline

Not to be outdone, highly-influential Canadian Business magazine jumped to the front of the crowd, predicting on its cover that “The Housing Crash Begins,” a forecast no top level observer has yet made. That said, large residential housing corrections, (which in the United States morphed into a very real crash), have indeed occurred in many industrialized countries. So it makes sense to assess whether you think one is coming, and how you should to prepare.

 

Here in Canada house prices are trading at exceptionally high values relative to both median incomes and rental costs. That’s particularly true in red hot markets such as Toronto, Calgary and Vancouver (where prices are trading at more than 10 times median family incomes). So there is clearly some downside risk. Yet while leading thinkers at CREA, CMHC and elsewhere, expect the sector to cool, the overwhelming consensus is that the changes will be moderate.

 

For example Scotiabank chief executive Risk Waugh recently told reporters that he expects a “soft landing at worst.” Benjamin Tal, an economist at CIBC World Markets also concedes that a price adjustment is likely in the works, but that “demographic forces will be supportive of real estate markets in the coming decade.”

 

Standing pat

However what to do if you think house prices are about to come down depends in large part on your personal position, and on how large you expect the drop to be.

 

For example those currently shopping for a new home may well want to wait a while to see how the dust settles, before acting. However for existing homeowners, the situation is less clear. If prices fall by 10 percent (at the more extreme end of the gloomy forecasts) the average Canadian house would lose about $35,000 in value. The temptation may thus be strong to sell the house, and buy it back later at a cheaper price.

 

However trying that kind of stunt may be a mistake. That’s because as with stocks, you never know when house prices have peaked or bottomed. As a result you are likely to miss both extremes, and will thus lose out on much of the benefits. Even if you do act, selling and moving costs tend to be far higher than people expect to pay. For example just paying the real estate fees to sell your home will set you back near 6 percent. That’s on top of the renovation and moving costs you’d be stuck with. 

 

The broader lesson though is that while house prices do occasionally rise and fall, over the long-term the latter trend tends to prevail. For example four years ago we wrote (http://www.peterdiekmeyer.com/br080408.html) about gadfly Garth Turner’s book The Greater Fool, which also predicted a major crash. Sure enough national resale housing prices did indeed drop briefly shortly thereafter, though by barely enough to over the real estate fees of someone who wanted to sell, to avoid the dip.

 

However back in 2008 when Turner made the prediction, the average price of existing homes being sold was in $307,000 range. Last month it was near $350,000. So homeowners who followed Turner’s warnings and got out of residential real estate, lost out on $43,000 in average gains.

 

Of course there is no guarantee that the Cassandras such as Turner and Canadian Business magazine won’t one day be right.

 

The question rather is how do you trust the depth and timing of their predictions?

 

Peter@peterdiekmeyer.com

 

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