Wealth

A REAL ESTATE BUBBLE?

House prices have soared in recent years. No one’s panicking yet, but some ask how long it can last

KATHERINE MACKLEM September 30 2002
Wealth

A REAL ESTATE BUBBLE?

House prices have soared in recent years. No one’s panicking yet, but some ask how long it can last

KATHERINE MACKLEM September 30 2002

A REAL ESTATE BUBBLE?

Wealth

House prices have soared in recent years. No one’s panicking yet, but some ask how long it can last

KATHERINE MACKLEM

EARLY LAST WEEK, Elizabeth Cowan called her client. “You’re rich,” she told him. “And now you can be famous.” She’d sold his house for him in July and she wanted him to pose for a Maclean’s photo shoot The house is gorgeous, adds the Royal LePage agent. A 9,000-sq.-ft. classic with five bedrooms, two kitchens and a four-car garage, it sits behind iron gates and a stone wall on a secluded street in a swank suburb north of Toronto. There’s a soothing fountain in the middle of the circular drive and a saltwater pool out back. Cowan helped her client buy the property two and ahalfyears ago for $1.3 million; in July, it sold for $2.7 million, making him a cool $1.4 million. But he turned her down

on the photo. “Fame costs,” he said, worrying he’d get too many calls from fundraisers. Not to mention, in his case, scrutiny from Revenue Canada.

Back down to earth, where mere mortals reside, much the same thing is happening. Real estate prices are rising in virtually every property category, almost everywhere in Canada—perhaps not to such giddy heights, but still enough to make sellers feel wealthy and buyers nervous. Some fear that a new bubble, reminiscent of the late 1980s, is building, and could soon burst. Others see more stability. The lift has been evident for at least two years. High-tech Ottawa, for instance, began seeing multiple bids on properties

in 2000, which previously was unheard of, says Bob Eberts, a Re/Max agent. While the market calmed some in 2001, it remained surprisingly unaffected by the tech meltdown. This year, he says, it’s “back to being on steroids.”

In Montreal, the city seemingly forever beleaguered by referendum-induced aches and pains, the price for a townhouse is almost double, in pockets, what it was a year ago. Ditto for Edmonton: for years the poor cousin to Calgary, it has taken on some lustre of its own, and prices in some areas have risen 30 and 40 per cent in the past two years. In Canada’s more expensive cities, it’s more of the same. Vancouver, where prices are still the highest in the country—due in part to the rapid influx of Asian money in the 1980s and early ’90s—is again seeing an overall increase in values, following a serious dip four years ago. Toronto’s prices have—finally, for some homeowners—climbed past the peak set in the boom of 1989/90.

Over the summer, prices levelled off a bit in most markets, says Sherry Chris, a

FIVE BOOMING YEARS

Average saie price for a two-storey, three-bedroom house (in thousands of dollars)

Average price, Spring 1997

Per cent increase since 1997

Average price, Spring 2002

Royal LePage executive who oversees the firm’s agents and brokers. But that’s a seasonal phenomenon: fewer people are looking. “It’s still very hot out there,” Chris says—and she’s not talking about the weather—“right across the country.” Interest rates at their lowest level since the mid-1960s and a solid job market have set the “ideal conditions” for residential sales, says CIBC World Markets chief economist Jeffrey Rubin. The low rates allow owners to buy “more” house, while near-record job creation gives people confidence to sign on the bottom line. And, it doesn’t hurt, says Rubin, “if you’ve made money on the house you just sold.”

Canada’s nine million baby boomers are another part of the story, says Gary Hockey, president of Coldwell Banker Canada. Many are trading up, he says, and some are seeking investment opportunities. Their now-grown babies are also becoming players, often getting parental help with the down payment, says Hockey, whose own 25-year-old son is just one example. All of this boosts market activity, Hockey says. “The more fuel, the more house prices go up.”

Carlos Leitao, a Royal Bank of Canada senior economist, measures the proportion of income that goes to the ownership costs of a detached bungalow. Even though the average price of a bungalow in Canada has more than doubled from $84,163 in 1985 to $171,033 in 2002, the cost of carrying that home dropped from 37 per cent to 31 per cent of the average household’s pretax income, he says. In 1989 and 1990, at the peak of the last real estate boom, when five-year mortgage rates hovered between 11 and 14 per cent, Leitao’s affordability index jumped to 49 per cent, well above what he calls the “potentially troublesome” threshold of 40 per cent. The double-digit mortgage rates and a très cher Vancouver market, where affordability hit an astronomical 64 per cent, pulled up the national cost. While Vancouver has since come down from that mountain, it’s still the toughest city in Canada to carry a house: at the beginning of this year, its affordability ratio was 48 per cent.

Affordability rates have drifted up in 2002, says Leitao. Rising house prices and a modest increase in interest rates are the main factors. But an expected rate of roughly 33 per cent at year’s end is “a far

cry from the harmful levels” of 1989 and 1990, he says. “Housing is vastly more affordable than it was.”

Even so, pessimists still raise the Bword: is there a real estate bubble? Each month, from March to August, the average price of a home sold in major Canadian markets hit a new height. By August, for all types including condominiums, it was $200,290. And deal-making surged. The 200,000 homes sold in the first eight months of 2002 outpaced the same period last year—already strong—by 16 per cent. That’s existing homes. New house construction is similarly torrid, up 30 per cent over last year. As Allan Seychuk, another Royal Bank economist, says: “Housing starts continue to defy gravity.” One characteristic of a bubble is frenzy—and that’s been around in abundance. Corina Thomas and her husband Rob decided to sell their three-bedroom house in Hamilton to move to a townhouse condo. It was June—a bit late for spring sales. “We thought we’d missed the market,” Corina says. She needn’t have worried. On the day the house was listed, her

‘We thought we’d missed the market,’ says Hamilton’s Thomas. She needn’t have worried. The house sold in three days.

agent, Harry Mancini, delivered the first offer. Two days later, a second one. The house sold in three days.

Carolyn Cheng, who last spring bought into an unbuilt downtown Toronto condo project, had good reasons to go for it. She’d finished paying off her student loans and a mortgage would be only slightly more than the rent she now pays. Plus, she wanted something funky and central—and that’s what she’s getting. The 30-year-old admits the frenzy accelerated her decision to buy: “There was so much buzz about the real estate market.”

CIBC’s Rubin, the man who called the real estate bubble in 1989, says there’s no parallel today. Only a significant interest rate hike could trigger a collapse in the housing market, and that’s “not very likely,” he says. A slowdown in job growth could cool the housing market slightly, but it wouldn’t burst a bubble, he adds. Royal Bank’s Leitao agrees. Some segments, such as the Toronto condo market, may be “on the bubbly side,” he says, but overall “we don’t think it is a bubble by any means. Keep in mind, we’re coming from a deep, deep hole.” Still, Coldwell Banker’s Hockey says he’s cautioning his brokers to prepare for a downturn, not that he expects it anytime soon. “The real estate markets are very, very cyclical,” he notes.

Calling the end of a bubble can be tough, says economist Michael McCracken of Informetrica Ltd. It happens at the point when fear overtakes greed. And only after the fact will we know it’s burst. In the meantime, just the fact the question is being raised is reason enough for caution. 1?!