What will be the impact of the Russian-Ukraine war on Canada’s manic housing market? Of course, much depends on the scope of the conflict and the impact on the economy, inflation and interest rates. As things stand, the conflict is expected to raise more concern about inflation than growth, heightening risks to the rate outlook. The Bank of Canada doesn’t see the war as an obstacle to tightening, as it pulled the trigger this week, and it plans to hold tight to the normalization path for the year. Although Governor Macklem said the uncertainty caused by the war warrants a “careful” approach, any caution will be sorely tested if inflation pushes further beyond three-decade highs. By further snarling global supply chains and sending many commodity prices to multi-year highs (oil and wheat at 13-year peaks and aluminum at all-time highs), the war is an unwelcome guest at the inflation table. The Governor isn’t ruling out the possibility of launching a 50-bp missile if needed.
If the conflict escalates and ultimately depresses confidence and financial conditions further, the hit to the economy could dominate concerns about inflation, spurring a slower tightening cadence. However, the war is unlikely to echo previous crises that only ended up juicing the market, notably the 2014 oil price crash and the 2020 pandemic, which led to rate cuts that stoked the 2016 and current mania.
In fact, it’s hard to see the housing market becoming more feverish than it is now. Benchmark prices posted record gains (going back to 2005) on both a yearly and monthly basis in January, and prices look to have accelerated again in February based on the latest city reports. Vancouver benchmark prices rocketed 20.7% y/y and by more than 3% seasonally adjusted in the month, with sales 27% above the decade average for February. But that’s pedestrian compared with Toronto’s price soaring 35.9% y/y and an estimated 4.5% seasonally adjusted. To put the latter figure in perspective, in a balanced market, house prices would normally rise more or less alongside family income—which rarely grows 4.5% in an entire year let alone a single month. Toronto’s prices have risen 56% annualized in the past six months, which is even faster than during the speculative bubble of the late 1980s (using average prices). Yet, despite escalating prices, bidding wars remain relentless, with Toronto posting the second-best February sales figure on record. And, prices are rising even faster in many other regions. London’s benchmark price was up a sizzling 41.2% y/y last month.
Regional markets that might come out ahead even in a rising interest rate climate are the energy and commodity producing provinces of Alberta, Saskatchewan, and Newfoundland and Labrador. Not only have they largely avoided the pandemic explosion in house prices, and thus remain highly affordable and likely to withstand higher rates, they stand to benefit from the soaring price of oil, natural gas, wheat and potash. In fact, Calgary’s existing home sales hit a record high for the month of February, and benchmark prices blasted nearly 6% higher in the month and 16.1% in the past year.
The Bank of Canada’s quarter-point move this week is a helpful first step that should begin shifting the market’s psychology away from FOMO. But it also recalls several well-worn clichés, including: too little, too late; and tossing peanuts at an elephant. It likely won’t take many peanuts, however, to slow demand in the more expensive regions of the country given strained affordability even at current low rates. Investors, now the fastest growing share of buyers, will be the first to back off. Many potential buyers will have little choice but to rent as ownership becomes an ever-distant dream. Canada’s housing market now faces its biggest test since the last round of rate hikes and housing tax/mortgage rule changes in 2017. Supportive fundamentals such as job growth and immigration will provide a cushion. But the main threat to the market is if prices continue to defy gravity and rise at current unsustainable rates, before rate hikes have a chance to bring the market gradually back down to earth.