For the past six months or so, we’ve heard nothing but how our housing market is cooling off, with sales dropping and prices… well, marginally following suit. According to a recent study by the Economist, however, Canada’s market is anything but frigid – in fact, it’s the most overheated market in the world! According to their calculations, which factors in current estimates of the price-to-rent and prices-to-disposable income ratios to assess home prices, Canada suffers from overvaluation of a full 78 per cent. Yes, you read that right – that’s one hot tamale of a housing market! By the same metric, Japan is undervalued by 37 per cent, and the U.S. by seven per cent.
How sound is this assessment? Well, price-to-rent and prices-to-disposable income ratios are two valid indicators that gauge whether a market is over or undervalued. They apply directly to affordability in terms of pure income and the direct alternative to buying (renting). According to Trulia, a real estate search site, anything valued under 15 indicates it’s a good buying option, while those over 15 are better off as rentals.
Does This Mean We’re In For a Big Correction?
It does make sense that the U.S. is undervalued given the sharp correction in prices over the last few years. However, the values for Canada need to be taken with a grain of salt as these numbers may themselves be misconstrued. The benchmark or “fair” value is based on the long- run average over the last 35 years or so. Canada is coming off of a housing boom that really ramped up in the late 90s – so yes, there’s been a post-boom price increase. But does it mean that prices are overvalued by as much as 78 per cent?
Just one month ago, during my own house hunting adventures, I came across a two-bed, two-bath condo in Toronto that was either $1,800 a month to rent, or $360,000 to buy – a P/R ratio of 16.67. This signaled to me (according to the magic number of 15) that this would have been a slightly better rental than a purchase. That’s not even including the condo fees, taxes, or other closing costs to the buyer – once factored in, the ratio would likely be closer to 20 or more… so renting turned out to be a MUCH better deal than buying.
According to the Economist, based on the prices-to-disposable-income ratio alone, the Canadian market is overvalued by 34 per cent. Do I buy into it? Not so much – while I agree that prices are overvalued in some areas, I still wouldn’t go as far to say that they are overvalued by this much, nor is a 34 per cent correction in the near future.
To Rent Or To Buy?
This brings us back to the age old question of renting vs. buying – which really is better? According to TREB, Toronto condo sales fell 23 per cent from 2011, while the selling price only decreased by one per cent. Those aren’t great conditions for buying, though prices will continue to moderate as long as they remain the best supplied market segment and buyers have more units to choose from.
In contrast, the rent market flourished, with transactions rising by nearly 13 per cent year over year in the 4th quarter of 2012. These factors show that – at least for now as stubborn prices remain virtually unchanged – renting is the clear choice in one of Canada’s biggest markets.
RateSupermarket.ca Week in Review
Finally, some movement to report! Fixed mortgage rates were in for a slide, with three-year fixed falling six basis points (2.65-2.59) and four-year down 10 points (2.88-2.78). One-year variable also saw a drop by 20 points ((3-2.8). Only three-year variable rates experienced upward movement increasing 15 basis points (2.65-2.80).