By Tracy Hanes
Strengthening multi-unit sales should buffer Ontario market correction
After 2017’s rollercoaster ride, expect the province’s housing market to be on a steadier track this year.
Experts predict a cooling in the market, but it will be a soft landing. Multi-unit residential building (MURB) sales will continue to play a key role in large urban centres due to their affordability, but after a record year, at least one source expects sales and prices to slow there as well.
We asked BMO Financial Group Chief Economist Douglas Porter, RBC Senior Economist Robert Hogue, CMHC Ontario Regional Economist Ted Tsiakopoulos and Ben Myers, Fortress Real Developments Senior V.P. of Market Research and Analytics, for their views.
But first, a recap of 2017—“as crazy a year as you could imagine,” according to Myers. “The average resale home price in the GTA went from $730,000 in December 2016 to more than $916,000 in April 2017. That was unbelievable—26% price growth in just a few months.”
That type of increase was simply not justified, notes Hogue, who says buyers and sellers were acting on expectations that prices would continue to rise 25–30% a year. “The more prices rose, the stronger demand became and the weaker supply became, and that created weird dynamics.”
Porter describes the conditions as a “bubble” that spread beyond the GTA to communities within a 90-minute commute, including Guelph, Barrie and Peterborough, where prices also jumped 30–40% from the previous year. “To some extent, that ship has sailed,” he says.
The provincial government’s Fair Housing Plan, introduced in April, threw cold water on the fire. While most changes were minor and one of its main components, the Foreign Buyers’ Tax, affected a small fraction of buyers, purchasers pulled back. Home resale activity from April to July fell by 44% and resale prices took a tumble too.
“The increasing price activity had bled into places such as Wasaga Beach and Orillia, and there have been slowdowns in those areas, but I think it’s temporary,” suggests Myers.
On the high-rise side, Myers said there wasn’t much of a drop-off, with many successful launches and values holding. He notes the correction in resale activity in April and July was concentrated in the low-rise market, while the “multi-unit and high-rise market skated through this period.”
What that illustrates, says Hogue, is that more affordably priced units are still selling and the market is shifting from higher to lower priced homes, which tend to be mid- to high-rise units.
Resales started picking up in August and September, indicating the market had probably hit bottom in terms of reaction to the Fair Housing Plan, “but that doesn’t mean it will bounce back where it was before,” advises Hogue.
So what’s ahead for 2018? A gradual slide back to reality. Factors include the recent mortgage stress tests, expected interest rate hikes and a slowing of economic growth.
According to the 2017 CMHC Fall Report, interest rates should climb as domestic economic conditions improve and world interest rates rise. CMHC’s baseline scenario predicts a posted five-year mortgage rate in the 4.9% to 5.7% range in 2018 and 5.2% to 6.2% in 2019 (compared to the 4.99% posted rate in December). The expected increase from 2017-2019 should be, at most, 160 basis points.
“We’re looking at further cooling activity. Ontario will be flat this year relative to what we’ve seen the last two years,” says Hogue, who expects the market to stabilize early in 2018 and edge lower in the second half of the year.
Tsiakopoulos, however, expects a good start to the year. “I think we’ll see a bounce between the end of 2017 and the spring of 2018,” he says. “Some buyers who moved to the sidelines and who are willing and able to buy, will enter the market. We should see a decent spring before a cool-off.”
The economy as a whole will continue its strong growth, Tsiakopoulos adds. That growth will be felt for the next two to three quarters and there will be some recovery in house prices before a dampening in the latter part of 2018 and through 2019. The economy and immigration numbers have grown faster than expected, he notes, but both will likely slow.
Myers, meanwhile, thinks the stress test will push people down the ladder. “Those seeking a larger home will look to a smaller residence or stay where they are,” he says. “But then first-time buyers already had this stress test in 2016 and the opposite of what people thought occurred. Instead of depressing the market, prices shot up 26%!”
THE RISE OF MURBS
Although Ontario posted record MURB sales in 2017 (an estimated 34,000, compared to the previous record of 27,000 in 2016), Porter predicts 72,000 housing starts in the province in 2018 and 65,000 in 2019—a notable decline from the inordinately large 79,000 that was estimated for 2017.
The CMHC’s 2017 fourth quarter report forecast an inner range of about 65,000 starts in 2018, with increased starts in MURB projects and rental construction, and a decline in single-detached and other home types. Affordability and increased pressure for intensification will erode single-family construction. However, the picture is rosier when focusing on eastern and southwestern Ontario, where there are stronger local economies, fewer imbalances and higher levels of affordability, the report suggests.
Tsiakopolous notes a distinct trend, with GTA households occupying apartments (rental and owned) growing five times faster than single-detached occupancy from 2011 to 2016. “The (recent) over-evaluation was more negligible on the multi-family market side, and because of affordability, a lot of demand will continue to shift in that direction.”
There’s also a longer-term trend in play. “In the early ’70s, 70% of all starts were multi-unit,” notes Tsiakopolous. “That number started to drift lower in the following years, with immigration—primarily from Europe—helping drive single-family housing. By 1985, just one-third of starts were multi-unit. But since then, we’ve seen a general uptick, particularly since 2000. And now 60% of new starts are multi-unit, and that number should continue to increase.
“It’s not just affordability driving it,” says Tsiakopolous, “but also land-use policy. The other factor is the price of land. In Toronto and Vancouver it now comprises 80% of the value of real estate. So from a builder standpoint, it makes more sense intensifying than building single-family homes. And that trend is proliferating beyond the big city centres into smaller towns.”
Numbers from the Building Industry and Land Development Association (BILD) confim the trend. Through October 2017, 91% of the 5,377 new homes sold in the GTA were condos, including high-rise, mid-rise and stacked townhouse units, according to BILD, setting a new record. Condo sales were 81% above the 10-year average. Low-rise sales, on the other hand, were 64% below the 10-year average of 1,388.
Although the numbers aren’t as gaudy, new-project statistics also suggest the rise of MURB projects elsewhere in Ontario. For example, as of November, there were 26 new-home developments within Oakville, 20 of which were multi-unit (11 condos and nine townhouse projects). In Ottawa, of 148 new developments, 82 were multi-unit (67 condominiums, four apartments and 11 townhouse projects). Of Guelph’s 18 projects, 11 are MURBs. And Niagara was seeing six of its nine new projects devoted to condos, apartments and townhouses.
However, after a robust year of MURB sales, market research firm Urbanation expects GTA condo sales to moderate in 2018, but still fare well. “As far as the high-rise share of the market goes, I feel developers are going to keep things flowing,” says Urbanation market analyst Pauline Lierman. “There are some launches planned for early in the year and the market won’t quiet over the winter. We might have a busier first quarter than we thought.”
Demand will continue in downtown and along new transit lines, but as prices have risen ($1,000 per square foot on average downtown and $700 in Vaughan), that could spur more demand on the outskirts as buyers search for more affordable options, Lierman says. However, the city is going to have to allow for redevelopment of some neighbourhoods to accommodate more density—Lierman cites locations along the coming Eglinton Crosstown line—to meet demand. Even condos in surburban locations such as Milton and Pickering are selling well, she notes.
Lierman doesn’t see the mortgage stress test rules as having much impact on the condo sector, as new condo buyers are already required to have 20 to 25% down. But condo developments do face some headwinds in 2018, she warns. Those include the proposal to replace the Ontario Municipal Board with the Local Planning Appeal Tribunal, which will give greater weight to local community decisions and make it easier for the public to make appeals, and thus likely harder for developers to get approvals. And those longer time lags will add to project costs.
That said, the underlying market principles haven’t eased: “Employment is good, people are moving here, a lot of wealth is coming in and there’s still a lot of immigration,” Lierman notes. According to PwC’s Emerging Trends in Real Estate in 2018 report, the appetite for condos shows no sign of waning in several major Canadian centres.
The market is driven not only among young professionals who embrace the live/work/play lifestyle and want to live downtown, but also by retiring baby boomers who want to be in the heart of urban amenities. This has been a trend in Toronto for some time, but the PwC report cites Ottawa as a market that will be strong for new condo projects going forward, as years’ worth of oversupply has at last been absorbed.
As for the projected overall easing in starts this year, that’s not necessarily a negative thing, says Tsiakopolous, since fewer new households are being formed. “We need new housing starts to drift to 65,000 to 70,000 a year,” he says. “But keep your eye on this. It’s not a big issue today or for a couple of years, but when units get completed and household growth is lower than it has been, we need to see residential construction cool off a bit.”
“We had 28,000 completions in 2015 based on sales made in 2011, which was the largest year ever,” notes Myers. “But we may have 32,000 or 33,000 completions in 2021. That could drive down prices.” Hogue has been impressed “by how multi-family completions have been absorbed and fears of oversupply haven’t transpired.”
He cites a continuing desire for property ownership, but because the demand is directed to lower priced units and people don’t want to fight traffic gridlock, the strongest demand for multi-family units will remain in the core. And Myers expects investors to still buy downtown units from builders. And with Sidewalk Labs and possibly Amazon coming to Toronto, and immigration targets increasing, a larger percentage of people will gravitate to the big city.
BEST BETS IN ’18
Looking for a good place to build? Tsiakopoulos is bullish on southern and eastern Ontario. “Windsor and Ottawa are communities that will fare better because they have had fewer imbalances, so are not so overvalued,” he says. “When the GTA sneezes, these areas don’t catch that cold, as they don’t have the Toronto connection like Hamilton or Barrie do.”
The Ottawa market hasn’t gone through a boom phase yet and there are public spending programs to be rolled out and the federal government administration sector is growing, says Tsiakopolous. Windsor has benefited from a rise in global manufacturing. He says Sudbury’s market might also prosper, as it remains affordable, the mining sector is doing well and while specifics haven’t been presented yet, there is money set aside for the Ring of Fire, the massive planned chromite mining and smelting development project in the mineral-rich James Bay Lowlands of Northern Ontario. Porter expects the London and Kingston markets to be strong, as they are attracting a lot of retirees. And he too forecasts a surge in Ottawa.
STRONG RENTAL DEMAND
People have to live somewhere, says Myers. “Some might live with parents or will stay in their rental, because their rent is not going to go up more than 2.5% a year.” The Fair Housing Plan expanded rental control to all private rental units in the province. Previously, it applied to buildings constructed pre-1991. Now landlords will be limited to the Rent Increase Guideline amount (1.8% in 2018).
That will change based on inflation each year, but cannot exceed 2.5%. “The market is going to grow for rental buildings,” predicts Tsiakopoulos. “We are going to see vacancy rates trend lower and that should encourage slightly stronger rent growth. But there is a cap on rent for new units and that is going to impact new development.
We may see investment in new rentals—whether purpose-built or high-rise units that will be rented out—just not as pronounced.” “It may seem like a solution in the near term to put a cap on rent,” says Hogue, “but in the medium to longer term, it’s likely to be counterproductive. I’m already hearing reports about plans to build new purpose-built rentals being abandoned, just when we are starting to see renewed interest in that space.”
Uncertainty about the future of the North American Free Trade Agreement and with exports accounting for 25% of Ontario’s GDP, and with 75% of the province’s exports going to the U.S., changes to the agreement could impact jobs and the economy, cautions Tsiakopoulos.
Another economic vulnerability would be hiking interest rates, particularly if people are not able to pay their debts. In the Golden Horseshoe, development land continues to be in short supply and approval times lengthy, resulting in a supply constraint. Affordability will continue to be a concern. Hogue says many people still want a single detached home with a yard, but “there are compromises to be made.”
That means people have to settle for a multi-family unit in major urban centres or move further away and put up with lengthy commutes. “Toronto has reached the big leagues. It’s not the top tier like London and New York, but it’s not that far behind,” says Hogue.
“It’s still growing faster than those two cities and is still a maturing urban area. The ownership affordability issues that are inherent to large cities will continue to be part of life in the GTA.”
Hogue believes it’s fruitless to impose policies that address ownership affordability in Toronto and that we instead should focus on affordable rental options. What’s hard to predict, though, is buyer psychology, suggests Tsiakopolous. Fuelled by social media, blogs and stories can go viral—even if not factual—and influence people’s buying decisions.
For example, while foreign buyers comprise less than 5% of the home-buying market, the introduction of the Foreign Buyers’ Tax inordinately cooled sales as prospective buyers worried about what further policies might affect the market. Hogue, though, expects the Ontario economy to stay robust, unemployment to stay low and, despite increases, interest rates will still be low. The wave of immigration will continue as well. “When you put it all together,” he notes, “the fundamentals are quite supportive (of the housing market).” As interest rates edge up in 2018 along with tighter mortgage rules, the cumulative effect will cool, but certainly not crash the market.