Is the Real Estate Bubble Real?

You’ve heard that there’s a Toronto real estate bubble, you’ve probably even heard rumours that it’s going to pop… but what exactly is a bubble, how did we get here, and why does it matter? 

What is a bubble?

In the real estate market, a bubble is defined by home price inflation that is growing faster than income inflation. 

What causes a bubble? 

Basic economics explains that price is driven by supply and demand. Bubbles are created when there is a shortage of supply to meet the demand, and housing prices are artificially inflated. Bubbles continue while perceived demand results in increased supply. A bubble pops at the point where supply exceeds demand. 

What can cause supply to exceed demand?

Typically, demand can be stifled by three main factors: 

    1. Interest Rates. If the lending rate increases, and it becomes harder for buyers to qualify for a mortgage, this will typically deter buyers and weaken demand. In the case of Toronto’s real estate market, interest rates have already increased 1.25% in the last two years. The housing market didn’t bat an eyelash.
    2. Recession. Obviously, if the economy takes a hit, so does consumer confidence. This results in less purchasing all together, it’s not specific to housing. If recent history is any indication, we’d expect a recession to cause prices to fall by 5% to 6%, and to rebound to their current levels once consumer confidence is restored.
    3. New Development. If new developments outpace Toronto’s population growth, we could end up with more supply than our city demands. 

Will our bubble pop?

It seems incredibly unlikely that Interest Rates and Recession will pop the Toronto real estate market bubble, at best, they’ll shrink it temporarily to reduce the risk of it popping.

The key to understanding if our bubble will pop or not is to understand whether or not Toronto can out-build the demand for housing

If you’ve looked around, you’ve undoubtedly seen how much construction surrounds us. In fact, Toronto’s construction industry has been at full capacity for years, but there is still an appetite for more. 

A large part of the housing demand in Toronto is driven from out-of-town. Toronto is consistently ranked amongst the top places to live worldwide, and it’s no secret that our city is attracting foreign buyers. When the real estate market is driven by wealth, and wealth from outside the city limits, there isn’t necessarily a limit on housing prices. 

It’s also worth noting that as Toronto continues to be recognized as a tech hub and our city attracts major tech companies, more and more development will be devoted to commercial office space. More offices mean less residential units, which makes it even less likely that our housing supply will exceed demand. 

Even if we could increase our development capacity to create enough supply to outpace demand, Canadian legislature all but guarantees this won’t happen. Unlike in the US, developers in Canada need to sell 75% of a building before they can even begin to develop. If there isn’t enough demand to support a development, it simply won’t get built. 

July saw a 24% YoY increase in the number of home sales in the GTA. From where I stand, there’s no end in sight for the housing shortage. I don’t think sellers can expect the crazy offers that they did in 2017, but there is still plenty of opportunity to build equity in your home. 

If you’re on the outside looking in, don’t wait for a bubble to pop. The conditions for buying right now are as good as they’ll be in the foreseeable future. Interest rates are steady and First-Time Home Buyer Incentives and changes to the RRSP Home Buyers Plan can give you a little extra boost. 

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