Price Declines Stabilize, Short Term Future Uncertain Amid Interest Rate Hikes, Despite Record High Immigration and Continually Tight Supply.
We have been anxiously awaiting these September numbers to see if the “bottoming out” patterns we saw in August continued. The trends which could be labeled as signaling the start of a bottom in August were decreasing inventory for the first time all year, increasing sales month over month, and a change in the trajectory of the price declines.
In short, while September still showed much more market stability than previous months in the year, it has also left us on the edge of our next fork in the road which I will do my best to outline in this article.
With prices down a little over 1% month over month in the city of Peterborough for the second month in a row, our price graph for the year - which was once a growing image of a cliff or a roller coaster drop - has definitely settled out and at least found some resistance to its pace of decline. We had hoped that September might actually show prices going straight sideways, or even with a slight uptick as we have seen in Toronto over the last couple of months, but instead we see a modest slide which leaves us to ask: are we around the corner from a flat or upward month of prices, or is declining by 0.5%-1.5% per month the new normal until Central banks start to reverse course on interest rates in 2023?
We can posit some theories once we dig a bit deeper into the factors contributing to our average sales prices, namely sales activity and inventory trends. These trends are also influenced by several macroeconomic and socioeconomic factors that we will be addressing on an ongoing basis in these articles.
Despite being a typically active month, sales activity was at its lowest level in nearly a decade for the month of September, and down 30% year over year. Showing activity was also down in kind, at its lowest levels for 2022 as depicted in the graph below.
It is likely that the main factor contributing to this slowing pace of activity is due in part to buyers feeling that prices may still drop further. While many buyers do express a concern for missing the bottom of the market, it seems to be generally understood that until interest rates begin to reverse, competition levels that we have seen in years past are not likely.
Many buyers are keenly preparing and doing their due diligence to move closer towards being able to purchase, but there is little sense of urgency unless properties are priced low enough to be perceived as significantly discounted to the current market prices.
What makes things really interesting, is that despite all of the negative sentiment and low buyer demand, inventory continues to remain low in historical terms.
Months of inventory (click link for video breakdown of this metric) was at 2.25 this month, up just slightly from August. We continue to see sellers hesitate to enter the market while they know that activity is slow, and many sellers who have the option to wait longer than 6 months to sell seem to feel confident that conditions will improve at some point in the not too distant future.
Supporting elements of this line of thinking typically cite massive ongoing immigration numbers into our country colliding with ongoing bottlenecks for new construction starts, especially during our current low confidence environment. To round this out, many have adopted the perception that interest rate declines are imminent at some point in 2023.
Many industry experts seem to be of the mindset that a flat market is the best case scenario for Ontario over the next several months, as buyers are still cautious and the Bank of Canada has recently made statements indicating that they are still not backing off of their position on the inflation battle in regards to raising interest rates.
As Steve Saretksy said in this past week's edition of The Loonie Hour Podcast: “The more resilient the housing market is, the more ammo it gives central banks to keep raising rates”.
In addition to this, many analysts and industry pundits are now starting to suggest that we could see Central Bank rates rise by another .75 to 1.00 percentage point in 2022. I outline loosely the effect this might have on mortgage payments - and subsequently house prices - below.
On the Average Home in Peterborough, a further 1% increase in interest rates could look something like this: $630,000 current on a 5 year variable at 5.28% = monthly payment of $3029.00.
An increase of rates by 1% would show us with: $630,000 at 6.28% = $3334.00, which is an increase of $305.00 dollars a month or 10%.
We have seen so far that prices have not moved down in direct lockstep with rate increases but have come rather close. And while 1% is on the higher side rate increase of projections for the remainder or 2022 almost all sources indicate we should expect at least another .5 to .75 of a percentage point increase this year.
This paints us the picture generally, that if buyers' ability to leverage themselves is going to be dampened by a further 5% to 10% this year, then it's possible that average prices could do the same.
One final note on this topic is that not all inventory and price levels are likely to be hit the same should this be the case. We have observed so far during this market correction that product at the top end of the price spectrum has been hit particularly hard, whereas inventory that sits more in line with what average Peterborough incomes can afford has found a bit more of a floor.
Most conversations on the topic right now seem to suggest that we should expect weak sales numbers over the next several months, indicating that prices might continue to slug slightly lower for the next little while as long as total active listings continue to grow.
The points mentioned above about strong ongoing immigration and continually restricted supply, certainly paint a bullish picture for future real estate prices if we do happen to see interest rates drop well below their current levels.
That being said, the trigger event that eventually causes banks to lower rates could fall into a few different categories. For the sake of this article, lets keep it simple and break them down into the two extremes:
Or, the other uglier but possible option which would involve an acute paralyzing of consumer demand and economic confidence:
Both of these points could be expanded upon greatly, but for the sake of this article we will consider it sufficient to have outlined that the timing and reason for central banks to reduce interest rates in the future could vary greatly. Further, whether they initiate rate decreases because inflation is under control for all the right reasons, or because there is a global economic crisis could in theory lead to two very different ongoing interest rate policy situations. Specifically, if everything went perfectly according to plan, it would be logical that the Bank of Canada would plan to leave interest rates somewhere in the neutral zone, closer to where average interest rates have sat in the long run over history, which could be very close to where they are currently, or even a little higher.
If, however, we should happen to see the type of global financial event that is possible right now with all of the underlying issues in our world economy, it is possible that we see central banks revert back to emergency liquidity producing measures such as massive bond buying programs and low for long interest rates all over again until economic stability is established.
While such a prospect is hard enough to plan for that I hesitate to even mention it, it is also impossible to deny its existence as one of the potential future outcomes.
All of that being said...
Even with the most bullish or optimistic vision for the 1-2 year future of the market, it’s hard to imagine it surpassing its recent peaks in regards to home prices. The prices of February and March 2022 were built on interest rates that we shouldn’t plan on seeing again anytime soon, with the exception of the 'Black Swan' event indicated above.
On top of this, it's unlikely that we will see meaningful wage growth anytime soon in order to compensate for buyers' diminished ability to extend themselves under huge loans. More likely than this in reality is that we see increased unemployment as a central bank engineered recession grabs hold.
While discussions for home buyers and sellers commonly center around prices, a new market reality is emerging that might crown a new king buzzword, which is quality of life.
In my opinion, prices will continue to drop slightly at 1-2% per month over the next several months, but once rates revert, prices will quickly rise to their new normal and be stuck there for a long time.
It is my opinion that we will not see real estate as a get rich quick scheme for a long time to come. Buyers purchasing power is a function of their incomes and the bank's interest rates and willingness to lend. There is almost no picture where we see rates drop meaningfully below their current levels and stay there.
Instead, what is most likely, is that despite all of these stalled construction projects, and despite all of this immigration, prices will not have much room to grow and instead we will simply be watching a reversal of the quality standard of living most have come to expect.
In a new world of low productivity, extreme government regulation, an emphasis on the benefits of top down planning and wealth distribution, rather than free market forces, our housing stock could come to more closely resemble the Cuban automobile market than the housing market for one of the world's most sought after places to live.
What this will mean is that rather than the wealth generated by owning real estate in the past, instead we could see stagnant prices being supported even in the face of a slower economy, by nothing more than buyers being willing to take more drastic measures to attain home ownership. More specifically, it is my ongoing belief that the economic pressures created by our affordability issues will force many to consider intergenerational housing situations long term, a downsized vision of their dream home, and cutting extras in many other areas of life in order to afford home ownership.
Further to this, it is possible that we see meaningful amounts of younger generations opting to give up on the home ownership dream, and choosing the flexibility of renting and being able to travel and pursue the digital nomad life.
All of these drastic statements being considered, we will continue to follow the storylines month by month in order to make the most informed decisions based on current information.
Thanks for sticking with me through the end of that rant, and I look forward to catching up with everyone next month after the BOC’s next interest rate announcement, and the results of our municipal elections are finalized!
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