August 4, 2004

Canadian housing prices have risen considerably in recent years. But unlike the U.S., where real estate in several cities is hitting spectacular heights, experts say that talk of a bubble here is premature.

Are we in a housing bubble?

By Peter Diekmeyer o Bankrate.com

When tech stock prices began to implode at the turn of the millennium, many investors cashed in their chips and moved money into what they felt was a more secure investment: their homes.

Thus began one of the largest run-ups in house prices in decades, with many Canadian cities seeing regular double digit increases in valuations over several years. Despite this run-up, experts say that --unlike in the U.S. -- Canadian real estate is far from bubble territory.

"You could say that the party is pretty much over as far as the big increases are concerned," says Benjamin Tal, a senior economist at CIBC World Markets. "But when you look at the long-term, house prices have pretty much kept pace with inflation during the past 15 years."

Gregory Klump, chief economist at the Canadian Real Estate Association (CREA) agrees. "The recent run-up follows an extended period during the 1990s when valuations didn't move at all, or moved very slowly in many markets."

Flatness, then a big run-up

According to CREA data, the average Canadian house sold via the MLS went for $146,965 in 1989, with prices staying pretty much flat throughout most the 1990s. As late as 1999, the average Canadian house price had risen to only $158,145, an increase of just 7.6% over the decade.

But since 1999, prices have skyrocketed. During the second quarter of 2004, the average Canadian house sold for $229,353, an increase of 45% during the past 4 1/2 years.

This meteoric increase in real estate has more than compensated Canadian families for the fall in their mutual fund portfolios, and has been one of the prime generators of economic activity in Canada, as people use their increased home equity to borrow and spend more money.

But according to Krump, the hot real-estate market is more reflective of a favorable economic environment than a speculative bubble.

"There has been a broad range of favorable data including job growth, interest rates and disposable income," says Krump. "That means people have more money available for home purchase."

Houses are more expensive, but more affordable

CIBC World Markets has been tracking housing affordability for more than a decade, and its internal numbers are revealing.

According to Tal, despite the recent run up in real-estate prices, the median Canadian family is spending only 30% of its household income on housing-related expenses such as mortgage payments, taxes and insurance.

That's a bargain relative to the 40% of household income that families spent on housing ten years ago. And it's a pittance compared to 1989 when that number hit close to 45%.

According to Tal, another sign that we are not yet approaching bubble territory is the lack of supply on the market.

"When you hit the late stages of a run-up you start seeing a lot of speculative selling," says Tal. "People begin to put their houses on the market at unrealistic asking prices. We're not seeing a lot of that yet."

But Tal cautions that the recent spurt in home building is cause for concern.

"We're on pace to reach 230,000 housing starts this year, when the economy only needs about 165,000 a year to absorb the population increase," says Tal. "That's unsustainable over the long term."

Prices could rise even more in the near term

But the home building spree is not expected to hit house prices just yet. In fact Tal predicts were in for another short-term rise in the re-sale market coming months, due to concerns about interest rates.

"People sense that interest rates are bottoming out, and they want to take make their moves before that window closes," says Tal. "So you are going to be seeing a lot of people who view this as their last chance to buy or upgrade their homes."

Tal expects housing prices to rise by about 7.0% for 2004 as a whole, and to keep pace with inflation next year.

 

Peter Diekmeyer is the Montreal Gazette's management columnist. He can be reached at: peter@peterdiekmeyer.com

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