Show Transcript
Housing prices in Canada have fallen about 20% since reaching their peak in February of last year. But is the bottom in sight? Kim Parlee speaks with James Orlando, Senior Economist at TD, about the outlook for housing.
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[MUSIC PLAYING]
* Let's talk a bit about the declines in housing price, because I understand one of the things that you note that is interesting is that it has been orderly versus disorderly. Why is that notable? It's more comfortable, but why is that notable to you?
* Yeah, we think of where we came from. You started off the show by talking about how interest rates went from-- we had a huge interest rate increase. So we went from effectively zero rates in Canada to 4.5% for the Bank of Canada policy rate. That is a huge move, a massive move, especially when you consider that everyone had been expecting rates to be between 0 and 2% forever.
So the housing market calibrated to that level of interest rates. Prices reflected that. There was little interest rate risk in the housing market.
Now we had the Bank of Canada that raises rates double what the peak rate was expected. And so when you think about how rates have gone up so much, that shock to people, that recalibration that's needed, housing prices need to adjust to that.
But at the same time that mortgage rates increased, we actually didn't see listings increased. Listings are actually down over 2022. So, what that means is that people are absorbing the higher interest rates. There not throwing in the towel saying, you know what? I can't afford this anymore. And so as a result, we don't have people trying to sell their house for whatever value they can get. Now, for us, what that means, and for any homeowners, that means that housing prices haven't been gone down much more than what they normally would do, this recalibration of prices, a logical recalibration of prices given that interest rate increase that we saw.
* Fascinating just that it adjusted so quickly in terms of the supply side, that it pulled it in. OK.
That's what's happened to now. Now what?
* So now what is everyone is looking for this housing market bottom. And if you're looking to figure out where prices go for housing, the most important thing to look at is interest rates. So where are mortgage rates going from here? We had probably the peak in mortgage rates, so five-year fixed mortgage rates I'm talking about right now, in about October. That was peak hawkishness from the central banks. That was when Jerome Powell, Tiff Macklem, were talking about how high rates are going to go.
But now we have an idea of how high rates are going to go. We're at 4.5% for the Bank of Canada. Maybe they go to 4.75%, maybe they don't. Now, when you look at mortgage rates, that's priced off the five-year Canada bond yield. Now that five-year Canada bond yield hasn't continued increasing since that October time period. In fact, we've come down a little bit or flatlined on that level of interest rates.
Now, if inflation can continue to go down in Canada, that will reduce the need for the Bank of Canada to keep increasing interest rates, which will cause the five-year government bond yield, and the five-year mortgage rate to continue declining over this year. And that is going to be the most important thing for the housing market, price-wise, to find a bottom.
Because we've got a lot of good things going for us in Canada. We have strong population growth. We have strong income growth. We have a lot-- we have--
* Immigration.
* A job market. Immigration. All of that is moving in our favor. The demand side is there. The supply side has not kept up. And as a result, the wheels are in motion for the Canadian housing market to find a bottom now that we have that interest rate certainty, and the potential for lower mortgage rates over the rest of this year.
* It's interesting, there's two things that-- I had to hold my tongue because I wanted to jump in. So, inflation, the potential for where inflation will go. But also, I want to ask about just maybe the mechanics of the market, and maybe mortgage market, where maybe people haven't had to renew yet at higher rates. They haven't had to do that stuff yet. So is there another shoe to drop on that front, maybe?
* Yeah, it's a very slow moving thing when it comes to how much that impacts Canadians and when we actually feel the increase in interest rates. For example, you might have a mortgage that might reset in 2024. Someone else might have in 2025, and so everyone fields it at different times. And that's very true.
But what we really worry about when it comes to another leg down, because we had a leg down based on this interest rate adjustment. Now we feel like we have that recalibration. It's close to done. We're somewhere around done.
Now, another leg going down for the housing market, what would cause that is most likely a hit to people's incomes. So what we found is that people are able to absorb the increasing cost for housing. That's why listings haven't gone up.
* But if their income goes down they can't afford it anymore.
* That's exactly right. So the big risk to the housing market is a loss of income, which means job losses. That means a big spike up in the unemployment rate. This is that hard landing you keep hearing about all the time. If we go into a hard landing scenario, which most people aren't really calling for anymore. Now the talk is soft landing or no landing. That is the scenario we worry about for another leg down in housing.
* I've only got about two minutes here. I just want to let you know. But the other thing that is interesting within this is that inflation right now is-- it is where it is, and it's starting to cool a tiny bit. But you're interested in what if it comes down much faster than we thought.
* Yeah, actually inflation has peaked in Canada. We peaked back in the summer. We had the impact of Russia's invasion of Ukraine, the impact on energy prices, the shoot up in commodity prices, the supply chain issues. Those are all starting to unwind. Obviously, the Russian invasion of Ukraine is continuing, but energy prices have come down from their peak, raw commodity prices, food prices. Supply chains have unwound significantly.
And so the wheels are in motion for lower inflation, and specifically on goods, like physical things, your gym equipment, your furniture,
* Your gym equipment.
* My gym equipment. Yes. My gym equipment is definitely on sale right now.
[LAUGHTER]
Now, so we think about these things. The wheels are in motion for that. So we have 5.9% inflation year-on-year in Canada right now. Most of the inflation that we got to get that 5.9% happened between February and May of 2022. So when we get into February and May of 2023, all of those increases are going to start washing out of the data, and we're going to be going from 5.9% inflation, to around 3% by the summer.
Now, that 3%, in my mind, and in the Bank of Canada's mind, is much more palatable. That is a very successful outcome given everything that they're trying to achieve in bringing down inflation. And if they're able to achieve it without tremendous amount of job losses, even better.
[MUSIC PLAYING]
* Let's talk a bit about the declines in housing price, because I understand one of the things that you note that is interesting is that it has been orderly versus disorderly. Why is that notable? It's more comfortable, but why is that notable to you?
* Yeah, we think of where we came from. You started off the show by talking about how interest rates went from-- we had a huge interest rate increase. So we went from effectively zero rates in Canada to 4.5% for the Bank of Canada policy rate. That is a huge move, a massive move, especially when you consider that everyone had been expecting rates to be between 0 and 2% forever.
So the housing market calibrated to that level of interest rates. Prices reflected that. There was little interest rate risk in the housing market.
Now we had the Bank of Canada that raises rates double what the peak rate was expected. And so when you think about how rates have gone up so much, that shock to people, that recalibration that's needed, housing prices need to adjust to that.
But at the same time that mortgage rates increased, we actually didn't see listings increased. Listings are actually down over 2022. So, what that means is that people are absorbing the higher interest rates. There not throwing in the towel saying, you know what? I can't afford this anymore. And so as a result, we don't have people trying to sell their house for whatever value they can get. Now, for us, what that means, and for any homeowners, that means that housing prices haven't been gone down much more than what they normally would do, this recalibration of prices, a logical recalibration of prices given that interest rate increase that we saw.
* Fascinating just that it adjusted so quickly in terms of the supply side, that it pulled it in. OK.
That's what's happened to now. Now what?
* So now what is everyone is looking for this housing market bottom. And if you're looking to figure out where prices go for housing, the most important thing to look at is interest rates. So where are mortgage rates going from here? We had probably the peak in mortgage rates, so five-year fixed mortgage rates I'm talking about right now, in about October. That was peak hawkishness from the central banks. That was when Jerome Powell, Tiff Macklem, were talking about how high rates are going to go.
But now we have an idea of how high rates are going to go. We're at 4.5% for the Bank of Canada. Maybe they go to 4.75%, maybe they don't. Now, when you look at mortgage rates, that's priced off the five-year Canada bond yield. Now that five-year Canada bond yield hasn't continued increasing since that October time period. In fact, we've come down a little bit or flatlined on that level of interest rates.
Now, if inflation can continue to go down in Canada, that will reduce the need for the Bank of Canada to keep increasing interest rates, which will cause the five-year government bond yield, and the five-year mortgage rate to continue declining over this year. And that is going to be the most important thing for the housing market, price-wise, to find a bottom.
Because we've got a lot of good things going for us in Canada. We have strong population growth. We have strong income growth. We have a lot-- we have--
* Immigration.
* A job market. Immigration. All of that is moving in our favor. The demand side is there. The supply side has not kept up. And as a result, the wheels are in motion for the Canadian housing market to find a bottom now that we have that interest rate certainty, and the potential for lower mortgage rates over the rest of this year.
* It's interesting, there's two things that-- I had to hold my tongue because I wanted to jump in. So, inflation, the potential for where inflation will go. But also, I want to ask about just maybe the mechanics of the market, and maybe mortgage market, where maybe people haven't had to renew yet at higher rates. They haven't had to do that stuff yet. So is there another shoe to drop on that front, maybe?
* Yeah, it's a very slow moving thing when it comes to how much that impacts Canadians and when we actually feel the increase in interest rates. For example, you might have a mortgage that might reset in 2024. Someone else might have in 2025, and so everyone fields it at different times. And that's very true.
But what we really worry about when it comes to another leg down, because we had a leg down based on this interest rate adjustment. Now we feel like we have that recalibration. It's close to done. We're somewhere around done.
Now, another leg going down for the housing market, what would cause that is most likely a hit to people's incomes. So what we found is that people are able to absorb the increasing cost for housing. That's why listings haven't gone up.
* But if their income goes down they can't afford it anymore.
* That's exactly right. So the big risk to the housing market is a loss of income, which means job losses. That means a big spike up in the unemployment rate. This is that hard landing you keep hearing about all the time. If we go into a hard landing scenario, which most people aren't really calling for anymore. Now the talk is soft landing or no landing. That is the scenario we worry about for another leg down in housing.
* I've only got about two minutes here. I just want to let you know. But the other thing that is interesting within this is that inflation right now is-- it is where it is, and it's starting to cool a tiny bit. But you're interested in what if it comes down much faster than we thought.
* Yeah, actually inflation has peaked in Canada. We peaked back in the summer. We had the impact of Russia's invasion of Ukraine, the impact on energy prices, the shoot up in commodity prices, the supply chain issues. Those are all starting to unwind. Obviously, the Russian invasion of Ukraine is continuing, but energy prices have come down from their peak, raw commodity prices, food prices. Supply chains have unwound significantly.
And so the wheels are in motion for lower inflation, and specifically on goods, like physical things, your gym equipment, your furniture,
* Your gym equipment.
* My gym equipment. Yes. My gym equipment is definitely on sale right now.
[LAUGHTER]
Now, so we think about these things. The wheels are in motion for that. So we have 5.9% inflation year-on-year in Canada right now. Most of the inflation that we got to get that 5.9% happened between February and May of 2022. So when we get into February and May of 2023, all of those increases are going to start washing out of the data, and we're going to be going from 5.9% inflation, to around 3% by the summer.
Now, that 3%, in my mind, and in the Bank of Canada's mind, is much more palatable. That is a very successful outcome given everything that they're trying to achieve in bringing down inflation. And if they're able to achieve it without tremendous amount of job losses, even better.
[MUSIC PLAYING]
