Great news! The odds of a housing correction are soaring and people might lose a lot of cash — but the banks will be fine. That was a key takeaway from Bank of Canada (BoC) deputy governor Paul Beaudry today. Seriously.
In a speech to the OSC, the central bank warned Canadian real estate has seen a surge of investors. This has driven home prices much higher, sending even more investors to the segment. It’s a vicious cycle, where home prices are now just rising because people think that’s what they always do. The deputy chief said this can increase the odds of a correction, but the financial system can handle it. And really, isn’t our primary concern how the banks are doing?
Canadian Real Estate Investors Doubled Their Share of The Market
The BoC presented new data showing a surge of Canadian real estate investors. Their calculations show annual growth of investor purchases doubled in Q2 2021. In contrast, first-time homebuyers increased by less than 50% over the same period.
This isn’t totally surprising. Last month data from the land registry showed investors surged in Ontario. The new BoC data does confirm this is a national trend instead of a regional one. It also takes the narrative of first-time buyers driving this market behind the shed.
Home purchases by investors increased more during the pandemic than those by other homebuyers
Year-over-year growth in the number of new mortgages, by type of homebuyer (percent).
Source: : TransUnion, regulatory filings of Canadian banks and Bank of Canada calculations.
“A sudden influx of investors in the housing market likely contributed to the rapid price increases we saw earlier this year. In such a case, expectations of future price increases can become self-fulfilling, at least for a while. That can expose the market to a higher chance of a correction,” said Beaudry.
Investors, Crashes, and Lying About Occupancy?
The BoC chose an interesting paper to cite — Real Estate Investors, the Leverage Cycle, and the Housing Market Crisis. Written by the US Federal Reserve, it argues investors amplified home price growth during the 2000s. By doing this, they created much of the pressure that caused the US housing bubble.
The bubble pops when these investors can no longer drive the market higher. At that point, they start to withdraw their support of the market, helping to capitulate it. The last point is worth chewing on, since investors have been shifting to equities.
The US Fed suggests anti-speculation policies to target investors as a way to lower risk. Though they also found investors lie about the occupancy of their homes. This would make it extremely difficult to target them. As long as incentive exists, people will find a way around the rules.
Canadian Home Prices Falling Would Not Create A Financial Crisis
Most people think falling home prices can create a meltdown as the US saw in 2008. The Global Financial crisis wasn’t a housing correction though, it was a failure of the system. Home prices fell, but they did so with the general collapse of the economy.
The BoC deputy governor doesn’t see that happening. If home prices fall, he’s confident the system will avoid a financial crisis. This is an interesting distinction the central bank chose to point out today.
Not because the BoC recently said overconfidence in the system created a moral hazard. Just the fact they need to explain how prices falling isn’t an issue, is kind of strange.
“None of that is to say a calamity is on the horizon. The financial system as a whole is in good health and is generally quite resilient. Nevertheless, a drop in housing prices could significantly affect household spending, with repercussions for employment—even if it didn’t put the financial system at risk,” he said.
It’s just less money and higher unemployment. The good news is your bank will be totally fine.