June 10, 2022

PULLING INTO THE STATION

I sat in on a call this week with Shaun Cathcart, the Chief Economist with the Canadian Real Estate Association. I’ve heard him speak many times over the years, and I have always admire how concise and easy to digest the topics he delivers are. And of course, he has a great track record of being spot on with his analysis and predictions.

This month’s conversation detailed the impact that the Bank of Canada interest rate increases and mortgage stress test will have on the real estate market. The stress test for mortgage qualification is not new and has been around for some time now. In our opinion, it’s been a good example of proper government regulation, versus programs that are essentially political theatre.

The Mortgage Qualifier Tool is a requirement if you deal with a federally regulated bank or lender. If you want to avoid having to qualify at a higher level, you need to use a credit union or other non-federally regulated lender to get around this requirement. In order to be approved, you need to show that you can afford payments based upon a 5.25% threshold rate, or the rate you negotiate with your lender plus 2%. Want to refinance, switch lenders, or take out a Home Equity Line of Credit (HELOC)? You will need to pass the stress test as well.

We’ve all heard that the Bank of Canada rate has been increasing. The rate has increased from 0.25% to 1.50% over the past 6 months. There are another 4 interest rate announcements scheduled for the remainder of this year, and there’s a lot of speculation around the details of those announcements and potential increases. More on this in a moment.

The Bank of Canada (BoC) is the nation’s central bank, operating independently of political control. Its role is to “promote the economic and financial welfare of Canada” – translated, this means the bank will do whatever it takes to manage the economy, including keeping inflation under control.

You’d have to be living under a rock to not know that inflation has been a major international concern as of recent. Inflation in Canada has been running well above the 2% target rate, which is set by the BoC. Housing has been adding to our inflationary problems, as have a lot of global issues such as supply chains and the pandemic.

In Canada, the pandemic forced our government (and most other countries) to drop interest rates and loosen monetary policy in order to handle the economic turbulence that comes with a global pandemic. The downside of this monetary policy has been a lot of “cheap” money available and a ton of savings in our economy – which has contributed to the problem of inflation. Of course, now the solution is to raise interest rates to slow the economy and tame inflation.

Based upon the conversation with Shaun at CREA and his connections within the financial world, you can safely assume that the real estate markets have baked in the next 4 rounds of interest rate increases.

What’s this mean for homeowners, sellers and buyers? There’s going to be a definite impact in affordability. 5 year fixed mortgages, the most popular term in the market, are posting from 4.59% to 4.99%. Assuming you can get a 0.50% discounted rate, this means you will need to pass the stress test at 2% above the best rate you can negotiate. For a lot of buyers, that means dialling back their purchase price by $100K or more. Those that were pre-approved prior to the last interest rate increases will want to do something within the next 90 days in order to preserve their lower rates.

We are coaching our sellers to be realistic in their pricing, and for the most part, “price low & hold offers” has not been a good strategy for a market in transition. Smart sellers are pricing sharp, marketing aggressively and locking their buyers in now instead of waiting for those multiple offers and GTA buyers that previously dominated our market.

Our buyers are being coached that the increase in interest rates will have a bigger impact on their purchasing power than waiting for home prices to drop significantly. The smart strategy for buyers these days is to determine what their comfort level is for monthly payments and find an appropriate home – versus finding a home that works at current rates and crossing their fingers. We certainly expect interest rates to keep increasing this year, and we don’t expect to see them dropping below current values for at least 5 years.

While many in the Twittersphere are screaming recession and massive price drops, we’re suggesting this is a market that will be normalizing. It just feels precarious in comparison to the incredibly hot market we have grown accustomed to.

As the supply chains stabilize, demand normalizes, and interest rates return to a “normal” level, we believe we’ll see a balanced and stabilized market emerge in the near future.

I’m looking forward to a boring market. The roller coaster real estate ride over the past 3 years is almost over. Keep your seatbelts on and arms in until the ride has come to an end.