As interest rates rise and home sales slow, Canadian home prices could plummet up to 25% peak-to-trough, says a new report from TD Economics.
After an unprecedented price runup that ended in February, a housing market correction is underway, with home prices falling all across Canada. From the first to the second quarter of the year, the national average home price fell 9% as sales dropped by 20%. Prices are continuing their decline into the third quarter, falling to $629,971 in July -- down substantially from the $816,720 average seen in February.
By the first quarter of next year, TD predicts prices will fall 20-25% on an annual basis, with sales down 35%. The losses would be greatest in Ontario and British Columbia, the two provinces that saw the largest housing market booms during the pandemic. These pricier markets are expected to lead the downturn as "valuations for more expensive units, like detached housing, are unwinding at a relatively speedy pace," the report notes.
"More middle-of-the-road retrenchments are likely in Alberta, Quebec, and the Atlantic Region," the report reads. "Meanwhile, we expect prices to hold up better in Manitoba and Saskatchewan over this period."
TD is also forecasting a 1-1.5% loss from Canada's GDP during this same time period as a result of declining residential investments, but notes that this isn't enough to cause a contraction in overall GDP.
With national home prices having shot up 46% during the pandemic, a 20-25% decline would only partially retrace their recent growth. Because of this, the report notes that TD's predictions "can be more aptly described as a recalibration of the market, instead of something more severe." Their forecast is within the range of past housing market downturns, and is below the 38% reversal seen during the Global Financial Crisis that began in 2007.
A number of other factors will help keep the market from going beyond a recalibration, TD says, starting with the fact that the Bank of Canada is expected to pause its aggressive rate hike schedule later this year and, at a minimum, will move to implementing smaller increments. TD is also predicting that five-year bond yields, which underpin five-year fixed-rate mortgages, will dip in 2023 as inflation slows and economic activity softens.
Canada's mortgage stress test, which requires buyers to qualify at a higher rate than they will actually pay, has also added a layer of safety against rising interest rates, protecting both buyers and lenders. These factors, combined with personal income growth, have Canada on track for a soft-landing rather than a collapse, the bank says.
"Canadian consumers have built a pool of excess savings, which looks to have increased in the first quarter on the back of robust growth in employee compensation," the report reads. "This is a key distinction from past cycles, even in the event of recession. The unusual pool of savings offers a longer lifeline to finance existing mortgages and down payments as lower prices entice buyers back."
With the federal government aiming to bring 432,000 new permanent residents to Canada this year alone, and even higher targets for 2023 and 2024, TD says that Canada's population growth will help to keep demand high and ensure the market doesn't fall too far.
