Tags: bankruptcies, Calgary real estate, foreclosures, mortgage arrears
Much has been said about the growing amount of mortgage arrears in Alberta, but how much does that impact supply? As shown in previous graphs on this blog, the resale market has generally been rising whenever sales\new listings is greater than 50%. Given that Calgary condo and single family home average resale prices has risen over the last year, the supply\demand situation has obviously shifted to create stability in the market.
Most Calgarians know by now that mortgage arrears and bankruptcies are up. And most Calgarians I believe may think that the correction was due to the increase in bankruptcies. This couldn’t be farther from the truth.
2009 was a year that had a lot less new listings than in 2007, and 2008. So even while bankruptcies have increased, supply is down measurably as well. Supply due to bankruptcies remains a fairly small contributor to the overall resale supply picture.
One of the problems that caused the initial correction, was not a vast increase in bankruptcies, but that supply levels during the correction period were much greater than demand. Resale supply can come from many sources including death, divorce, and job transfer, but also low rental yields and offloading by investors, new housing construction and speculation of a market downturn.
Alberta bankruptcies are likely to continue to increase into 2010 (2.7 times January 2007 filings), as the rising mortgage arrears (4.2 times January 2007 amounts) have shown that banks have a bit of a backlog of mortgage arrears to clear out. Banks and the CMHC should communicate to developers and other market participants to expect more supply from mortgage arrears turning to bankruptcies going forward.
The following graph shows an estimate of Calgary consumer bankruptcies (estimated as 33.5% of the total Alberta population when compared to the Calgary CMA which includes the towns of Airdrie, and Cochrane in addition).
[click above image to enlarge]
Note that bankruptcies also include mortgages, bank and company loans, credit cards, taxes, student loans and utilities. In 2006, mortgages were declared as a liability in a bankruptcy only 17.5% of the time. Therefore, I believe the bankruptcy estimate as a component of new listings is a more pessimistic guess than actuality. One also needs to consider that bankruptcy filings have not kept up with mortgage arrears, and this may be because the judicial and banking system is in the process of staffing up to deal with a higher volumes as compared to the cylical lows in mortgage arrears that occurred in mid-2007.
Please vote below and feel free to elaborate on those risks further in the above comment section!
Calgary Housing Affordability Update November 22, 2009Posted by DustinRJay in Calgary real estate, Uncategorized.
Tags: affordability, Calgary real estate
As noted in previous posts, Calgary’s affordability has been on an improving trend. RBC economics shows that the current affordability in Calgary is nearing cyclical lows. If one looks at the period, all of the time between 1998 – 2005 I would consider fairly good times to buy. Since 2007, a combination of rising household income, falling house prices and lower interest rates have all improved the affordability of housing.
It’s important that individual market participants come up with a budget before buying that includes maintenance costs, condo fees, taxes, water, gas, electricity, insurance and mortgage costs. One should also budget for a higher interest rate environment when renewing in 5 years and consider things like retirement planning as well, risks of losing a job, and the amount of disposal income one will have available after tax.
I think the affordability metric is one indicator of the relative value of housing (particularly in Canada) as Canada has not had the same volumes of subprime lending. Studies have shown that regions within the US with higher amounts of subprime lending have fallen faster and harder than regions that don’t have the same amount of subprime lending (even if prices are relatively elevated in both cases). In regions with high amounts of subprime lending, I believe it is more important to pay attention to price to income instead of affordability.
I think that affordability is a leading indicator for future mortgage arrears. When affordability becomes stretched, it’s likely that mortgage arrears will increase countercyclically over the following years. The Calgary real estate correction in 1982 was predicated on extremely poor levels of affordability as noted in a previous post.
[click above image to enlarge]
To see the most recent RBC Report click here: RBC Housing Affordability Report
Calgary Housing Recovery Already Underway? October 20, 2009Posted by DustinRJay in Calgary real estate, supply and demand, Uncategorized.
Tags: Calgary real estate, supply and demand
It’s been awhile since my last post, so I thought I would share some interesting information.
The first graph illustrates the historical supply and new listings on a seasonally adjusted basis. Sales and new listings have been adjusted on a seasonally adjusted basis so that it gives a leading edge indicator of of how the resale market is performing. For example, December is typically the worst month of the year for sales and May is the best and there is a fairly consistent seasonal pattern to resale volumes. This adjustment also allows one to determine whether price movements are caused to to changes in supply or changes in demand. In the past few years, sales volumes I believe soared well above demographic demand, and in early 2009 were well below demographic demand. I believe future sales volumes will fall moderately from here due to what has been described as demand driven overbuilding (premature buying) that occurred in 2006.
Looking at new listings, one can see that supply is not the problem that many blogs had predicted would happen due to high foreclosures. Supply is much lower than it was in 2007 and 2008 and this is I believe because a much lower percentage of loans was granted to debtors of poor credit quality as compared to the US. I think there is also a rational component to the ebb and flow of activity in the resale market.
The series of events that occurred over the last few years may be as follows…. In 2005\2006 as rental vacancy dropped to 1%, and perceived slowness to bring new product to market, buyers reduced their personal time horizon to buy. This is driven by a belief that if they do not buy now, then they risk further price appreciation occurring or waiting a long time for house prices to drop. Potential sellers also recognize that there is a lack of supply, and put off selling. Speculators also enter the market to drive up demand in the short term, but do not immediately cause an increase in supply. In mid 2007, when inventory is increasing, and new construction was high, it is apparent that supply can satiate demand at that price point. Potential sellers and speculators that were delaying selling rush to the exits to cashout. Also, buyers suddenly realize that there will be a price correction, and now instead of reducing time horizon to buy, they increase the time horizon to buy as they realize that in the near term there was going to be a price correction. This causes a very sharp and sudden shift in both the supply and demand balance. In 2009, when housing construction nearly ground to a halt (especially with MFH starts) buyers have now begun reentering the market once again as inventory depletes. Potential sellers may also now be once again delaying selling purchases due to perception that the market has turned the corner, and less risk from a wave of supply coming from foreclosures.
In summary, I believe the price correction in the resale market is over for now as indicated by the graphs below… Although, I do not see why a relapse into a bear market is not possible if sales were to drop again. Housing corrections typically occur over a period of several years, and historically taken at least 4 years to unwind so I would not be surprised to see further price drops if the supply\demand situation shifts once again. There are reports that the Calgary commercial office space is overbuilt and vacancies will rise to 20% in the coming years and will halt commercial construction in Calgary for several years. The good news is this will provide stability and growth opportunity for businesses in Calgary as they can better keep a lid on operating costs.
[click above image to enlarge]
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Calgary Econometric Rent Model March 26, 2009Posted by DustinRJay in Calgary real estate, supply and demand.
Tags: Calgary real estate, econometric model, rent
There are really three separate, but linked, real estate markets: the resale market, the new construction market and the rental market. The following graph shows the historic relationship (1973-2008) between vacancy rates and rental increases for Calgary and has a good correlation of R²=0.80.
[click above for larger view]
Calgary Real Estate Historical Yields March 25, 2009Posted by DustinRJay in Calgary real estate, rental yields, risk spreads, valuation models.
Tags: bonds, Calgary real estate, yield spreads
One way of evaluating assets is to compare them to a safe investment. Arguably, the safest investment in Canada is Government of Canada bonds. The biggest risk with holding a bond, is that it is subject to inflation over the term that you hold the bond, but virtually guarantees return of your capital.
The following graph compares the historical rent to price ratio for Calgary against historical long term bond yields. One of the benefits of real estate over bonds, is that the dividend (rent) can be expected to grow over time, and the asset value will appreciate over long periods of time. A bond does not offer any upside from the coupon rate. Therefore, it’s usually irrational that real estate, which has more risks in comparison to Government bonds should yield less. The following graph helps identify some of the recent price corrections including the 1982, 1991 and 2007 corrections.
[click above for larger view]
One interpretation is that given recent rental increases, lower bond yields, and lower house prices that the current rent to price ratio is more competitive than bonds, and therefore offers fair value.
Inventory Zenith March 3, 2009Posted by DustinRJay in Calgary real estate, mortgages, supply and demand, Uncategorized, US real estate.
Tags: Calgary real estate, supply and demand
As discussed in a previous post, leading indicators at that time had pointed to the balance of inventory tipping towards excess demand in the near term. That has now happened, and year over year inventory is down 7% in Calgary.
The following graph illustrates a potential medium term price point. It is based on two points wherein inventory was dropping on a year over year basis. Prices dramatically above these points may lead to excess supply, and prices below have tended to lead to excess demand.
[click above for larger view]
Also noteworthy is:
- Wave of speculators in 2006 & 2007 resale market now appears to be over and unlikely to be a source of supply for some time.
- Calgary single family home construction was the lowest since 1995 in 2008 and the low level of housing starts is expected to continue into 2009. This is lower than demographic growth and therefore resale inventory appears poised to continue siphoning off from it’s current high levels.
- Drop in interest rates is likely having an impact on inventory. As interest rates drop, the yield spread between rent and mortgage rates improves thus increasing affordability and relative investment value. Some investors and homeowners may choose to delist if they believe their is more value in renting, or that the resale market is likely selling at a bigger discount to the new home construction market. New construction inventory may not be able to be supplied at the current price point. Note: Buyers need to run various budget scenarios to determine the risk of rising interest rates.
- Mortgage arrears in Alberta, while expected to rise, are at cyclical averages. Mike Fotiou, at First Place Realty, lists approximately 2.3% of inventory on the market as a foreclosure or judicial sale. This contrasts to the situation in the United States where 45% of sales are distressed properties. Canadian banks had argued that only 5.4% of Canadian mortgage market originations were nonconforming, compared to 33% of the market in the US was subprime and Alt-A. To date, the reduced exposure to shady loan origination practices in Canada appears to have largely insulated our housing market from the same level of credit defaults. As in the US, the extent of credit defaults will not be fully understood until house prices find a bottom. As year over year inventory is already dropping, this does not seem to be a large source of supply.
- Absorption rate is a source of imperfect information that may results in real estate mispricing. For instance, the absorption rate was 3.1 at the peak of the market in July 2007 and could have been perceived as a ‘good time to buy’ or ‘balanced market.’ However, year over year inventory increases were greater than 100% at the time and should have been an extremely strong indication that the market was about to correct. I think that absorption rate provides a good estimation of how the market will behave in the near term. However, a comparison of year over year inventory changes may provide a better estimate of how the market will behave in the medium term.
Glut Today, Excess Demand Tomorrow January 3, 2009Posted by DustinRJay in Calgary real estate, supply and demand, Uncategorized.
Tags: Calgary real estate, inventory, supply and demand
A review of inventory trends and prices is useful for helping to understand what the future price trend will be for the Calgary market. From the following graph, some conclusions can be made:
- Falling levels of inventory generally lead to higher prices and vice versa.
- Inventory is dropping at the fastest rate since the Spring 2006 bull market rally. Inventory has fallen 41% since the peak inventory in May 2008 to December 2008.
- Inventory rose most dramatically in 2006, by a smaller amount in 2007, and even smaller amount in 2008. The implications is that resale inventory appears poised to fall on a year over year basis for 2009. As of September 2008, single family home housing starts are at the lowest levels since 1986.
- Recent major market events including the oil price decline, and Lehman Brothers bank failure have not increased inventory levels.
- Major sources of supply were in response to high prices, not foreclosures; that source of supply now appears to be tapped out.
- Calgary real estate market has crossed into a state of excess demand, after several years of excess supply.
- Current high levels of inventory require risk management to bring inventory in with long term trends.
Click above image to enlarge.
The Price is Not Right… (But Not by Much) December 22, 2008Posted by DustinRJay in supply and demand.
Tags: Calgary real estate, demand, supply
In 2005 and 2006 supply was much less than demand and house prices rose. A ratio of 50% sales to new listings ratio has historically kept prices in balance. House prices overshot the supply/demand balance and started to fall. The crossover of the supply/demand balance indicates a level of price support at ~$375,000. Demand is likely to rebound slowly as prices drop. Supply is likely to retrace the supply/price relationship. As illustrated below, some overshoot to the downside is likely to burn through the current inventory.
Of particular interest is that supply had a high degree of elasticity in respect to price whereas sales did not. As a corollorary, I think that to some extent:
- Supply = f(marginal cost of supply), linear relationship
- Demand = f(consumer confidence), nonlinear relationship
Click above image to enlarge.
The 2008 Stock Market Crash – Irrational Despondence? October 9, 2008Posted by DustinRJay in Calgary real estate.
Tags: Calgary real estate, geometric series, investing, long term trends, stock market crash
Since the S&P 500 peaked in 2007, the stock market has plummeted a whopping 42% from the peak. The dot-com bubble deflated over several years, whereas the United States housing bubble has collapsed over a much shorter time period and has brought down with it the American banking system. Fear has run amuck, and the question is, has rational thought regarding value given way to irrational fears regarding market risks?
If one believes that the market is a somewhat random geometric series of cash flows that resembles exponential growth, then one should be able to identify peaks and troughs in the market by defining an “upper peak” and “lower trough” line.
The recent bear stock market has easily broken through the previous “lower trough” line and therefore savvy investors may now find substantial value in good stocks that have solid balance sheets and dividends that pay above safe investments like bonds. The following graph shows the S&P 500 and the upper and lower trading bands:
How does this relate to Calgary real estate? Bear markets such as the 1987 stock market crash did not have an impact on Calgary real estate prices and there has been virtually no correlation between Calgary real estate prices and the S&P 500.
There is likely a stronger linkage between the S&P/TSX Capped Energy Index and Calgary real estate prices. Overall, the slumping stock prices in this sector will likely result in less money available for capital expenditures, and less shareholders cashing out. In turn, this may result in less demand for high end real estate in Calgary over the next 12 months.
I believe that in the energy sector in particular, one can find substantial value through scouring balance sheets for price to earnings ratios, price to book value ratios and dividend yields. The most recent CIBC World Markets Canadian Portfolio Strategy Outlook makes the argument that TSX stocks are at the cheapest since 1987, and furthermore that energy stocks will provide the most upside over the next year.
Full Disclosure: I have positions in Calgary real estate and corporations that are components of the S&P/TSX Capped Energy Index
Calgary Misery Index – A Reason For Optimism in The Housing Market September 23, 2008Posted by DustinRJay in Calgary real estate, inflation.
Tags: Calgary real estate, inflation, misery index, unemployment
The misery index is a commonly used as a metric for stagflation. Stagflation is a combination of high unemployment and high inflation. High inflation and low unemployment rates created sharply rising house prices in the Calgary real estate market during the period from 1973 – 1983. In 1983, rapidly rising unemployment caused inflation levels to cool significantly, and house prices to fall. Again in 1990, upward trending unemployment rates caused house prices to stay flat for roughly 8 years.
In general, the following conditions are supportive of real estate growth:
- Low unemployment
- High Inflation
The following graph illustrates the relationship between inflation and unemployment to house prices:
Real Estate Economics and Budgeting August 28, 2008Posted by DustinRJay in Calgary real estate, valuation models.
Tags: budget, Calgary real estate, economics, investing
I think having a budget that you are comfortable with is critical to any investment strategy. By laying out the cash flows, and expected asset values you can get a feel for various economic parameters such as:
- Net present value comparison of various strategies
- Rate of return
- Sensitivity to various economic parameters such as interest rates and inflation
- Affordability or liquidity risks
I put together a budget of various shelter scenarios:
- Renting and Investing the Difference
I hope you find this budget useful as I believe having a well laid out plan is extremely important. Having a solid budget in place will create long term value for investors and create a successful financial environment for your family.
I strongly encourage people to come up with their own budgets, and perform due diligence before making any investment decision.
The budget excel spreadsheets that I came up with are here:
The Long View August 25, 2008Posted by DustinRJay in Uncategorized.
Tags: appreciation, Calgary real estate, housing cycle, inflation
The following graph shows the average house prices from 1973 to current. For most of the graphs on this blog it has shown Calgary real estate from an inflation adjusted perspective. If one was to consider inflation however, it can be seen that buying real estate can be helpful as a hedge against inflation.
There are better times to buy than others, however I believe that for the average person that bought at the peak in 1983 or 1990 with a 25 year horizon that they are still probably very happy with their decision.
What do you think?
A Tale of Two Markets August 23, 2008Posted by DustinRJay in Calgary real estate, supply and demand.
Tags: Calgary real estate, inventory overhang, MFH, overbuilding, SFH
A split has occurred in regards to the single family home and multi family home construction environment. The following article address the differences in supply-side characteristics for each market.
Calgary single family home market:
- Correction in starts largely historical, capacity to overbuild looks minimal, last couple data points may point to a bottom approaching as housing construction returns to historical rates, orderly unwinding likely
Calgary multi family home market:
- Construction has continued unabated, capacity to overbuild in place, projects such as Gateway Midtown being suspended point to major trouble signs ahead, long way to drop for construction starts to return to historical rates, disorderly unwinding possible
Ye Olde Real Estate Vintage August 19, 2008Posted by DustinRJay in Calgary real estate.
Tags: Calgary real estate, Vintaging
Bob Truman, at First Place Realty, is one of the sole providers of real estate information and statistics in Calgary besides the CREB. I use a lot of Bob’s data in my graphs, so he deserves a big shout-out for making this information available to the public!
The following is a graph comparison of the change in:
- Truman Index
- Average Price of SFH in Calgary
- Median Price of SFH in Calgary
Some of the primary points this graph makes are:
- Lots of spread in market value can create opportunities and risk as properties may be bought and resold for a gain or loss of +/- $80,000
- Value of a good REALTOR can add $40,000 of value per transaction, alternatively a poor REALTOR can cost you $40,000 of value per transaction
- Some flippers still appear to be making good money even in a market with high inventory
- Truman index seems to fit well with older vintage SFH average and median data but poorly with more recent sales. This may be due to changes in real estate market mix, recent profitable flippers skewing the trend or loss aversion.
- The majority of sales in 2006 and 2007 are still “in the black” as a total of 67% were resold at or greater than the previous sale price.
- A good deal on a purchase and sale may be worth the same value as perfectly timing the market
- Pulling the title and using a vintaging methodology can be another tool for assessing value
- Same sales pair data was from sales during the period August 1 – 14, 2008
- I apologize in advance for the “busy” graph.
Greenomics and the Value of Living Close to Work August 17, 2008Posted by DustinRJay in Calgary real estate, commute.
Tags: Calgary real estate, carbon footprint, commute, gentrification
I perceive a lot of value in living in downtown Calgary. I love the quick access to Flames games at the Saddledome, downtown nightlife, shopping on 17th Avenue, and jogging along the river pathways. Since recently moving, I have found myself walking to work and my vehicle has sat parked, except for weekend hikes.
My commute time is much shorter and my transportation costs have dropped dramatically. For those that are considering living in the inner city vs. the suburbs I came up with an estimate of the value placed on living in close proximity to your workplace.
I considered various factors that would change if one eliminated the use of one vehicle in their household as a result of living downtown. These include:
- Fuel costs
- Vehicle replacement costs
- Insurance costs
- Maintenance costs
- Parking costs
- Value one places on a shorter commute time
- Carbon footprint
The value I place simply on living close to work over the course of 25 years is about $250,000 at a discount rate of 7%. Also, it would result in having an extra 163 days of life not stuck in traffic over 25 years. Furthermore, over the span of 25 years, my carbon footprint would be reduced by 76,700 kgs. ¡Qué bueno!
By doing this exercise I also found that fuel costs are relatively small in comparison to the other costs associated with owning a vehicle. I believe that fuel costs are still much too small to encourage large fuel-efficiency improvements.
You can access the spreadsheet here and tailor it to your unique situation:
Things that go BOOM! August 9, 2008Posted by DustinRJay in Calgary real estate, stock market.
Tags: Calgary real estate, energy, stock market
The S&P/TSX Capped Energy Index is formed primarily of companies that have headquarters in Calgary. Since 2001, the index has quadrupled creating wealth on a massive scale. The boom in commodity prices has resulted in energy companies making more money, spending more money and allowing vested shareholders to cash out.
Excess liquidity brought about by the strong financial performance of Calgary energy companies was likely a major contributor to the Calgary house price boom.
The following graph shows that:
- S&P/TSX Capped Energy Index outperformed Calgary real estate as an investment
- Performance of the S&P/TSX Capped Energy Index was likely a leading indicator of the real estate boom
Volatility in Housing Markets (Part 1 of 2) July 20, 2008Posted by DustinRJay in Calgary real estate, volatility.
Tags: Calgary real estate, volatility
In general, housing prices have a low volatility compared to other asset classes. This is due to the underlying fundamental value (rents) being a relatively stable cash flow. This compares against stocks which have larger variance in earnings and therefore larger volatility in price.
A lookback at historical real estate volatility can help to give a forecast probability cloud. By comparison, the S&P 500 has a VIX index which is representative of S&P 500 volatility over the next 30 day period and is referred to by some as the fear index.
A quarterly calculation of year over year price changes by histogram for Calgary real estate from Q3 1977 to Q1 2008 helps identify the scale of price changes that could occur in one year. The results are below:
- P90: -5.6% (90% chance of price growth being greater than -5.6%)
- P50: +5.9% (50% chance of price growth being greater than +5.9%)
- P10: +19.9% (10% chance of price growth being greater than +19.9%)
Furthermore, the probability of an event occurring that is above the P10 or below the P90 for 5 consecutive years is 1 in 100,000 for each (i.e.: (1/10)^5 = 1/100,000). The shortfall of this kind of approach to volatility is that this calculation is not statistically independent as bear and bull markets typically last between 2-10 years.
What this analysis demonstrates is that even if a bearish scenario is the right approach, Mr. Market could take a very long time to unwind. The following graph illustrates what 5 consecutive P10, P50 and P90 events would look like and is meant to represent the best case, best guess and worst case respectively.
Calgary Real Estate Price Elasticity of Supply June 16, 2008Posted by DustinRJay in Calgary real estate, supply and demand.
Tags: Calgary real estate, supply and demand
The supply of residential construction in Calgary has been tightly correlated with house prices over the past 30+ years. High house prices lead to high levels of residential construction as increased margins encourage more market participants.
The following graph compares the amount of units under construction to house prices:
I believe this graph demonstrates that the Calgary real estate market is capable of oversupplying the market at the current price point and will continue to do so until developers margins are thinner. Feel free to post your own interpretation below.
Tags: Calgary real estate, residential construction
A comparison of units under construction in Calgary against population growth can help identify if there is too much residential real estate being developed. The following graph yields some interesting conclusions:
- Residential units under construction in Calgary is at unprecedented levels, easily surpassing the residential construction rate during the early 1980’s boom.
- There are record levels of inventory in the resale market with over 13,000 units for sale in the Calgary and surrounding area. This is coupled with yet another 14,000 units under construction and due to come on the market shortly. This should be very worrying for developers. Total residential units under construction would likely need to correct by more than 30% or to roughly pre-2006 construction levels to stabilize the supply/demand balance. If inventory continues to build and starts do not drop off than the correction will become more severe.
- In general: as housing starts increase, house prices go up. As housing starts decrease, house prices go down. This graph shows a recent American example.
- The fact that housing construction has increased relative to population growth is an indicator of a developing supply glut. Residential construction should have a trendline roughly parallel to population growth.
- Alberta has one of the highest costs of living and some of the poorest housing affordability in the country so it is unclear how population growth can continue at recent high growth rates. Recent Statistics Canada information has shown Alberta as having negative interprovincial migration.
- Housing production rates are firmly coupled to house prices. The number of residential units under construction has tripled since 2000.
- There is a better correlation between house prices and units under construction than population growth and units under construction.
- High carrying costs caused by a combination of high prices and higher interest rates was the primary cause of the 1980’s real estate crash. It resulted in a foreclosure boom and housing construction levels were decimated in only 2 years.
Tags: Calgary real estate, mortgage arrears
The cyclical average for mortgage arrears in Alberta has been about 0.4%. As affordability in Alberta is the poorest since the previous real estate peak in 1990, one would expect mortgage arrears to increase to closer to the cyclical average (or more). The current low rate of mortgage arrears is reflective of the fact that as house prices rapidly increase, people have more options available such as selling or refinancing.
As time passes, and more people have purchased properties that they can marginally afford and/or poorer economic conditions develops, the amount of mortgages arrears will increase. Credit risk typically appears after house prices have stagnated or begun to fall.
The following graph shows that Alberta mortgage arrears have only recently begun to increase:
I would highly recommend to compare this graph with Mohican’s at Langley Financial Planning and Personal Sanity who originally posted a similar mortgage arrears analysis for British Columbia.
As for timing real estate transactions, it is good investment advice to be, “fearful when others are greedy, and be greedy when others are fearful.” Look to mortgage arrears for help in timing peaks and troughs, as high amounts of mortgage arrears can indicate a good time to buy, whereas low amounts of mortgage arrears can indicate a good time to sell.
More specifically, trend direction changes in mortgage arrears from cyclical highs or lows can indicate an inflection point in the real estate cycle.
Tags: Calgary real estate, credit markets
Changing credit conditions impacts the demand for real estate. If credit lending practices are loosened, it allows new participants to purchase real estate. The increased demand for real estate creates upward price pressure until the demand can be satiated.
Likewise, if credit lending practices are tightened, less participants can purchase real estate which reduces demand for real estate.
So how have credit conditions in Canada changed over the past couple years?
The following is a timeline of roll-outs of new CMHC products which demonstrates the rapid loosening of credit that occurred in 2006 through mid 2007:
- February 2006: CMHC to insure 30 year mortgages on a pilot basis
- June 2006: CMHC introduces 35 year mortgage and interest-only mortgage insurance
- December 2006: CMHC introduces insurance for 40 year mortgages
- September 2007: CMHC offers insurance for 100% financed investment properties
Recently, due to the turmoil in credit markets, the amount of subprime mortgages funded in Canada has dropped substantially. As an example, Xceed’s (Canadian subprime lender) funded mortgages have plummeted from $340.0 million to $65.7 million. This one lender has resulted in a quarter billion less financing for real estate in Canada over the same reporting period last year. Tightened lending standards helps explain why YoY sales volumes are down considerably.
In summary, credit conditions affect the demand for real estate, so it is prudent to pay attention to how it impacts the supply/demand balance.
Tags: Calgary real estate, credit cycle
When house prices are increasing, if a homeowner’s mortgage is delinquent they have the option to sell and preserve their credit rating. However, in a falling real estate market, the homeowner will often end up foreclosing due to lack of an option. Therefore credit risk typically only appears when house prices are falling.
Credit has become easier in Canada over the past few years and that has affected the supply/demand balance. The following three posts will cover some aspects of how the credit markets are changing and how risk to the mortgage markets only appears after house prices have started falling.
This rudimentary diagram shows how the credit cycle has positive feedback during the upward cycle:
And this diagram helps describe how the credit cycle unwinds:
Game Over for First Time Home Buyer? March 18, 2008Posted by DustinRJay in Calgary real estate, supply and demand.
Tags: Calgary real estate, demand, first time home buyer, inventory, sales, supply
Single family home sales have dropped off dramatically in Calgary year over year. Therefore, it’s difficult to determine if averages and medians are representative of the direction of the market or reflective of changes in composition of the sales mix.
The following graph illustrates the year over year change in sales volume by price range:
It illustrates that:
For the first time home buyer market, single family home sales volumes have experienced significant deterioration
Higher-end ($600,000+) single family home sales volumes have held steady
As an aside, things in naturally occurring populations typically lie in a log normal distribution (including distribution of reserves in oilfields). Hence, it comes as no suprise that things like household income and also house prices also lie in a log normal distribution.
ArriVa – No One Home? March 12, 2008Posted by DustinRJay in Calgary real estate, condos.
Tags: Arriva, Calgary real estate, condos, speculation
ArriVa is one of the most recent condo’s that have finished construction in downtown Calgary. Construction has finished a couple of months ago and there are currently 22 units in the building that have been listed by speculators for a total of $15 million as shown by the picture below. A review of other condo’s in the downtown Calgary region shows that there is similar amounts of speculative activity with many individuals having no interest in holding the property long term.
Calgary condo inventory has hit all-time record amounts and there are currently 2519 condo units for sale in Calgary. In addition, condo inventory is rapidly growing due to near record amounts of multi-family home construction in Calgary.
With Calgary condo inventory roughly triple last year, sales down 37% year over year for February, and listings up 40% year over year for February, I find it likely that many of these speculators will be unsuccessful with flipping there property and some will end up in foreclosure.
Credit: Original photo by Lumin8 on Flickr
Tags: boom, bust, Calgary real estate, commercial real estate, construction
The amount of commercial real estate being developed in Calgary has not been witnessed since the 70’s and early 80’s. There are currently several mega-projects being built including the Bow (236.0 m), Eighth Avenue Place I (213.2 m), Centennial Place I (176.0 m), Jamieson Place (170.0 m), and Centennial Place II (110.0 m). These commercial buildings will greatly increase the amount of square footage of commercial real estate available downtown.
The Bow, at a staggering 1.7 million square feet, will consolidate EnCana’s staff from three buildings into one. Eighth Avenue Place (Penny Lane) currently has no anchor tenant and is being built on speculation. Commercial real estate lease agents are currently having a hard time getting anyone to sign a 1+ year contract due to the volumes of commercial real estate being developed.
It is possible that there is going to be an oversupply of commercial real estate in Calgary, and after this wave of commercial real estate is finished, there will likely be an extended lull in construction.
The following graph compares aggregate height of commercial buildings constructed over 100 metres by completion year against residential real estate prices:
A timeline of images of Calgary skylines shows that there is little change in commercial development from 1985 to 2004.
Some of the conclusions I came up with after doing this analysis are fairly intuitive, but help to provide insight into timing. These are:
- Residential prices boom during periods of commercial construction booms.
- Current commercial construction levels have not been this high since the 70’s and early 80’s.
- The residential real estate bust in Calgary occurred during a time when there was record levels of large scale commercial real estate construction being completed.
- When the 1980’s commercial construction boom ended, house values fell dramatically.
- Overdevelopment of commercial real estate in the 80’s left little constructed for the following 20 years.
- Commercial real estate construction is incredibly cyclical.
- For this construction boom, there is a much greater share of construction projects over 100 metres that are residential vs. commercial.
As an aside, I encourage anyone who is looking at the Canadian real estate market to look past the sound bites. Due to their vested interest, it is difficult to find a banker, real estate agent, CMHC analyst, developer, newspaper, or radio program which has the chance to be frank and analytical.
Financial Calculators For Making Real Estate Investment Decisions February 13, 2008Posted by DustinRJay in Calgary real estate, rental yields.
Tags: Calgary real estate, capitalization rate, rent vs. buy, rent vs. sell, rental yield
I have found the following two calculators useful for making decisions regarding whether or not it is a good time to buy or sell real estate. Some good test examples are:
- What is a fair market value for a house given its rent and an investment horizon of 10 years? e.g. No difference in wealth between renting and owning over a period of 10 years. What about 30 years? What about 5 years?
- How much does increasing or decreasing interest rates by 2 percentage points affect the economics of buying vs. renting?
- Develop three cases using conservative values, best guess values and upside values for owning vs. renting. How do they compare?
- Would a rental property have a greater return than safe investments like bonds or GIC’s?
The calculators are available at:
Risk Spreads – A Red Light on the Real Estate Market February 7, 2008Posted by DustinRJay in Calgary real estate, risk spreads.
Tags: bonds, Calgary real estate, Calgary real estate market, Canadian real estate, risk spreads, risks
A mortgage product has risk and therefore should have a higher return than a bond. By an analysis of the spread above the safe investment vehichle one can determine periods of heightened risk in the credit markets.
Typically, heightened risk in the credit markets has accompanied recessions. Also, this has proved to be one of several warning indicators for the peak in the housing market cycle.
As you can see in the following graph, large jumps in the risk spread (red zone) have typically accompanied the start of a bear market in real estate. In addition, a recession has often followed a sharp increase in the risk spread. Currently, the risk spread is the highest it has been since the early 1980’s bear Calgary real estate market.
This sort of analysis is useful in identifying some of the creamier investing opportunities (green zone) when the risks have been smaller.
Calgary Real Estate Supply & Demand January 2008 February 2, 2008Posted by DustinRJay in supply and demand.
Tags: Calgary real estate, Calgary real estate forecast, CREB predictions, January 2008 housing statistics
A review of supply and demand is important in understanding the direction of house prices. The following graph shows the recent trends of inventory and year over year sales. In summary, the market has changed dramatically from last year:
Current inventory is more than double January 2007
Sales are down more than 30% year over year
Please feel free to post your own interpretation.
Calgary Bull or Bear Real Estate Market? January 22, 2008Posted by DustinRJay in short term real estate trends.
Tags: bear market, bull market, Calgary real estate, forecast, prediction
For those looking to buy or sell in the near term it is worthwhile to understand the current trend so that some forecasting or predictions can be made about the real estate market. This is a complementary post to my Long Term Trends in Calgary Real Estate.
The primary factor affecting the near term trends is the supply & demand balance. The absorption rate is the (current inventory)/(sales in the last 30 days).
For example, as of yesterday:
Active listings: 3882
Sales last 30 days: 777
Absorption Rate: 3882/777 = 5.00 months
CREB defines a balanced market as anywhere between 2.0 to 3.5. The following graph illustrates the relationship between the absorption rate and the price change per month.
If the absorption rate was:
Below 2.0 = 79% of the time there were price increases
Above 3.5 = 100% of the time there were price decreases
The equation that can be used to roughly predict the price increases or decreases per month is:
Price Change Per Month = -$4,594 * (Absorption Rate) +$14,141
Based on the current absorption rate of 5 months, it appears that price decreases in the near future are likely.
Rich Dad? Poor Dad? A New Territory for Calgary House Price to Household Income Ratios January 19, 2008Posted by DustinRJay in house price to household income.
Tags: Calgary real estate, house price to household income ratio, house prices
RBC’s “Housing Affordability” concluded that “Affordability levels in Calgary are now comparable to levels reached in the late 1980’s at the peak of the housing market bubble and this has sparked some concern about the sustainability of prices… But caution is now warranted because we anticipate a significant slowdown in the pace of resale activity, new home construction and price gains in the coming year. Many properties have likely overshot their true value and will return to a pace of growth closer in line to the fundamentals.”
Another source of research on the relationship between house prices and household income is the 3rd Annual Demographia International Housing Affordability Survey: 2007. In it, the survey states that, “In recent decades, the Median Multiple has been remarkably similar among the nations surveyed, with median house prices generally being 3.0 or less times median household incomes where demand and supply are balanced.”
For Calgary, the median house price to household income ratio has been 2.8 as shown in the graph below:
In general, when house prices deviate too much above or below the longterm house price to household income ratio, house prices have tended to correct. Therefore, caution may be warranted if buying, as house prices are about 75% above what people could traditionally afford.
Terrain of Calgary Real Estate Valuation – Price To Rent Ratios January 16, 2008Posted by DustinRJay in rental yields, valuation models.
Tags: bonds, calgary house prices, Calgary real estate, price to rent ratios, valuation models
In the previous post, I discussed how Calgary rental yields are less than many safe investments like bonds. I was interested in how the price to rent ratio compared in a historical perspective and what were the valuations like compared to previous real estate cycles.
A price to rent ratio is similar to the price to earnings concept which is borrowed from the equity markets. The idea is that house prices can be compared against the cash flow that can be generated from the property. Ergo, the higher the house price in comparison to the rent, the poorer the value of the asset.
RBC published a report in 2005 called “House Valuations Across Major Cities.” At the time of the report, it stated that price to earnings ratios for Calgary real estate had pushed “significantly beyond” late 1980’s levels.
The following is a graph of how price to rent ratios compare in Calgary. As you can see, rental yields are an underlying fundamental of house prices up until 1998, when house prices started increasing exponentially, but the trend for the rent index stayed at roughly the same as inflation.
The current valuations are roughly double the long term price to rent ratio. This information dovetails with my previous blog entry wherein I came up with a rental yield of 3.1% for Calgary house prices which is less than safe investments like bonds. A comparison against the long run price to rent ratio and the current valuations indicates that a more rational valuation would be 6.2% (slightly above low risk assets like bonds).
Therefore, caution may be warranted if buying, as house prices are roughly double traditional valuations.
Tags: bonds, Calgary condos, Calgary real estate, rental yields
I thought it would be interesting to compare Calgary rental yields against a suite of safer investments.
For one to invest in real estate, one should desire a higher rate of return than other safer investments.
So, how did Calgary real estate stack up against the safer investments? As you can see in the graph below, not very well… In general, Calgary rental yields were less than the safer investments yields like GIC’s, savings accounts and bonds. Low rental yields have led to high levels of condominium conversions as lessors arbitrage differences between renting and owning.
The following is a rental yield calculation for a two bedroom condo in Calgary:
Calgary Rental Yields = (1089*12-150*12-1664)/304719 = 3.15%
This compares against:
ICICI Bank Savings Account (4.25%)
ICICI Bank 1 Year GIC (4.65%)
GoC 2 Year Benchmark Bond Yield (4.25%)
GoC 3 Year Benchmark Bond Yield (4.00%)
GoC 5 Year Benchmark Bond Yield (3.75%)
GoC 7 Year Benchmark Bond Yield (5.00%)
GoC 10 Year Benchmark Bond Yield (4.00%)
GoC Long Benchmark Bond Yield (5.75%)
Rental yields would need to increase by roughly 75% in order to be competitive with other safer investments. Considering current market conditions, a fair market value of $175,000 instead of $304,719 may be warranted for a condo (a drop of ~$130,000).
I find it unlikely that Calgary rent will increase to make rental yields competitive so much as Calgary real estate prices will continue to drop due to: