Canadian Housing Market Leveling Off

The Canadian Real Estate Association (CREA) is forecasting a record-setting year for residential real estate in Canada, but a new report from Scotia Economics says short-term cyclical factors are consistent with a gradual cooling off in Canada™s housing market over the next several years. The report also says long-term fundamentals, including slower population growth, will dampen the demand for housing.

The Scotia Economics report says Canada™s average annual rate of population growth is projected to slow to just 0.8 per cent over the coming decade, reflecting an aging society and historically low fertility rates.

This less favourable demographic trend does not in itself pose a major risk to the housing outlook, said Adrienne Warren, senior economist, Scotia Economics. Real household income growth and the level of interest rates have a statistically more significant influence on housing sales and price appreciation. But she says the expected moderation in underlying housing demand comes at a time when affordability is at a cycle low, supply conditions are becoming better balanced and pent-up demand has largely been satisfied.

Demographic shifts will also influence the type of housing in demand, says Warren. In particular, the changing age structure of the Canadian population and the growing significance of immigration will likely favour certain forms of housing and certain geographical areas.

The Canadian population aged 25 to 44 years those with the highest probability of buying a home in any given year“ is projected to increase by just two per cent between 2006 and 2016, or by 195,000, says the report. All of the growth will come from the youngest in this group (aged 25 to 34 years), reflecting the maturing of the baby echo generation. These buyers, many of them singles or young professional couples, should support continuing moderate demand for entry-level homes and condos, particularly in urban centres close to employment opportunities, says Warren.

The report says the population aged 35 to 44 years (the much smaller baby-bust generation) is expected to decline in absolute numbers over the same period. This group encompasses both first-time buyers and households in their early ˜trade-up™ years. They are more likely to have young families and relative to their younger cohort, favour larger suburban homes, a real estate segment that could under perform, says the report.

At the same time, the number of Canadians aged 45 to 64 years is projected to rise by 15 per cent (1.3 million) while Canadians 65 and over will jump by 65 per cent (1.5 million). Even taking into account the higher level of housing market activity of younger Canadians, the number of sales involving both late-stage “move up buyers and downsizers could dominate those of more traditional home buyers. While the lifestyles and housing needs of these more mature homeowners vary widely, an aging population should favour new construction over resales, lower maintenance options such as condominiums, second homes and vacation properties, and urban areas with greater amenities,says Warren.

Immigration will also play an increasingly important role in shaping housing demand, she says. Immigration has been the dominant source of household formation since the early 1990s, a trend that will accelerate over the coming decade as the rate of natural population growth continues to slow.

Net international migration is expected to account for over two-thirds of Canada™s population growth between 2006 and 2016, something not seen since Wilfrid Laurier was prime minister, says the report. Immigration could be Canada™s only source of population growth by about 2030.

Relatively weaker earnings growth vis-à -vis native-born Canadians is one possible factor behind the apparent difficulty faced by some recent immigrant households in making the transition from renter to homeowner, says the Scotia Economics report. “Recent policy initiatives to aid in assessing and recognizing foreign professional credentials will hopefully result in a better performance on this front. Immigrant families are also more likely than native-born Canadians to locate in major cities where homeownership rates in general are lower, and home prices higher.

The report says the strong wave of immigration since the early 1990s remains an ongoing important supportive factor for housing. Home ownership rates rise with the duration of residence, and is concentrated among foreign-born who have lived in Canada for 10 years or more, reflecting the time needed to accumulate the necessary savings, it says.

More than one-third of foreign-born residents in Canada™s largest urban centres have been in Canada for 10 years or less. This suggests a significant pool of potential home buyers ready to enter the Canadian real estate market, says Warren. The ˜typical™ home buyer in the coming decade will not be as traditional as in the past, having more diverse social and demographic characteristics.

Canadian House Prices Continue To Rise

Canadian house prices are likely to double in the next 20 years, according to a CIBC World Markets report released today, entitled "Much Ado About Nothing: Canadian House Prices Not Based on Demographics Alone."

"Despite downward pressure from demographic forces, on average, we expect house prices in Canada to double in the next 20 years," says Benjamin Tal, Senior Economist, CIBC World Markets. "Fears of a decline resulting from the downsizing and increased liquidations of houses by seniors and the falling number of first time buyers are highly
exaggerated."

The CIBC report compares population growth between two cycles of housing prices, from 1987 to 2006 and from 2007 to 2026, using Statistics Canada's medium-growth, medium-immigration projection as a benchmark.

Between 2007 and 2026, the projected 167,000 net decline in the number of first time buyers (Canadians between the ages of 25 and 44) is marginal, at best, Mr. Tal said. Since this age group is by far the largest contributor to overall housing demand, accounting for almost 68 per cent of all home sales, this relatively modest downturn will not significantly impact housing demand.

The largest decline (2.5 million) is projected for the 45 to 54 age group, as many baby boomers move to the next age bracket. The impact of this change is also expected to be limited, given that the 45 to 54 age group accounts for only 12 per cent of total housing demand. In fact, this moderate decline in housing demand will be partly offset by the strong increase in the age group 55 to 74 and its surprisingly high housing market activity - largely reflecting purchases of vacation and investment properties.

"We estimate that in the coming twenty years, the Canadian housing market will face extra supply of roughly 250,000 houses," adds Tal. "While at first glance this appears to be a large number, it means an average extra supply of only 12,500 homes a year during that period."

Considering that total housing starts during the previous cycle averaged 180,000 per year, builders will only have to reduce new supply to just under 170,000 to completely eliminate any negative demographic influence on house prices compared to the previous cycle.

Concerns regarding the impact of demographic forces on the Canadian housing market were first raised in the late 1980s. However, during the twenty year period from 1987 to 2007, Canada experienced a three per cent annual increase in real home prices.

Although housing market activity in the coming 20 years will fluctuate, CIBC projects that the average real house price will mirror the performance of the past two decades, "Assuming a two per cent annual inflation rate, this means that house prices in Canada are expected to double by 2026," said Mr. Tal. "This increase, of course, will not be symmetrical - with large cities seeing even larger increases in home evaluations."