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Ottawa Housing Predictions for 2012 - and Review of 2011

Over the last year we saw the worst financial crisis in the history of the United States and the European Union.

What saved Canadians from a disaster of this magnitude was continued world demand for our natural resources, but this was not enough to prevent net job losses and a poor rate of growth.

What saved Ottawa, as usual, was the relative stability of the local economy as a consequence of the percentage of those still employed in government.

As for Ottawa's housing industry, it continued to boom, supported by the lowest borrowing rates in Canadian history, which enabled more and more young tenants to become owners of new homes, by paying little more each month for their mortgages than the amount of rent they'd been paying previously.

Housing re-sales through MLS in November turned out to be the best on record for that calendar month, and rose by 13% in December. At year end, sales were 1.7% above the volume of houses sold in the entire previous year. The average price increased by 5.2 % to $343,701.

The annual total of new housing starts fell year-over-year by approximately 10%, despite a sudden increase in construction starts of row houses in December, more than doubling the number of starts at the previous year-end (up by 102% and driven by first-time home buyers), which suggests builder optimism for 2012.

All other types of housing starts fell, with apartments showing the biggest decline (by about 20%). Most construction was undertaken in Ottawa West (Nepean) and the farthest points of Ottawa East (Cumberland).

Local investment in rental properties continued to be advantageous. It had already become common-place to buy a downtown high-rise condo apartment for a rent-paying single working daughter or a townhouse for a married son happy to pay rent to Dad, enabling the accrual of more than the average increase in the value of real estate - possibly yielding 7.7% annually on the investment - with a safe tenant to take care of the property,

Home sales are expected to moderate in 2012 but remain stable. However, much the same was forecast for 2011 when sales rose instead.

Banks continued to capitalize on their home equity credit line products for existing home owners, by which householders are seduced by extraordinarily low borrowing rates (approx. 3%) for releasing the equity in their own home. The plan replaces sub-prime mortgages as a money-spinner for banks that raid a home owner's equity treasure-chest by encouraging borrowers to continue spending the money they had already spent to buy their home in the first place.

Home owners pay not only their mortgages, but also interest on their home equity line of credit for years to come - perhaps for ever - at least until the level of their borrowings exceed the value of the home.

Concerns about the inevitable increase in mortgage rates have, for the time-being, been put to rest.

In October, the Bank of Canada announced for the ninth consecutive time that it was holding the rate at one percent - where it has been since September 2010. The global financial crisis virtually ensures that no Western central bank is likely to increase its lending rate for a least a year - probably not before 2013, and very likely for longer than that.

More recently, the Bank of Canada has indicated that they will not consider an increase to the prime rate until at least mid-2014.

Increases thereafter, due to the weak global economy, are likely to be moderate and sustainable for perhaps another ten years.

This suggests that fears regarding the inability of new young and other first-time home buyers - already under pressure to pay their current mortgage amounts - to weather even a slight rate increase, are probably now unfounded . Such fears predicated a wave of defaults that would cascade through other sectors and gut the economy.

Regardless of scary media articles during 2011 about such defaults, a new study showed that most Canadian home owners appear to be able to withstand mortgage rate increases, and that only what mortgage lenders describe as a "sizable minority" are likely to get into trouble.

According to The Canadian Association of Accredited Mortgage Professionals, only some 12% of respondents (or approximately 650,000 households) would suffer financial stress if their mortgage rate rose by only 1%. And, in any case, the rosy report continues, with the present low bank rate level, they will have plenty of time to improve their financial situation long before mortgage rates begin to rise steeply.

That rosy view, however, pre-supposes a more stable economy and level of job security than may actually be the case.

According to The Canadian Association of Accredited Mortgage Professionals, 37% of Canadians speculated on a variable rate mortgage in the last year, increasing the percentage of Canadian floaters who could be vulnerable to Bank of Canada rate hikes.

There is a suggestion that the government crackdown on refinancing rules may also be affecting the market now that it restricts consumers to 85% debt on the value of their home instead of the previous 90%.

"Some people are coming out of 5% plus mortgages and saving a lot of money," said the editorial in Canadian Mortgage Trends. For example, a home-buyer with a $500,000 mortgage switching from 5% to 3.29% with a 20-year amortization could save up to $40,000 in interest over a five-year term.

It envisages "a growing line of people looking to break a mortgage and willing to pay the interest penalty." They are also happy to switch lenders. "I almost expect more people to jump into variable given the long-term interest rate environment looks so benign," said Mr. Guatieri of BMO.

A new Re/Max Real estate study says the value of Canadian homes has been boosted by billions spent on construction, renovation and infill, as a consequence of which the value of the average Canadian home jumped from $163,951 in 2000 to $339,030 in 2010.

The study says that prices were inflated by the investments made in Canadian homes. It was inevitable that investors and speculators with money to invest - like new-rich entrepreneurs in China and India - would see Canadian real estate offering higher returns and less risk than any other commodity.

Re/Max studied 16 markets over a 10-year period in which they found prices were up more than 100% in 10 markets over the period. Where else could speculators obtain an annual yield of ten percent with virtually no risk!

From 2000 to 2010, say Re/Max, $340-billion in building permits were applied for, and an estimated $450-billion was spend on the renovation market, an all-time high.

Due to the global financial crisis, some economists predict that the Bank of Canada will reduce its benchmark interest rate in 2012.

In November, economist Sheryl King of Bank of America said she expects the US central bank to cut the rate to 0.25% by early 2012, while Canadian economist David Madani at Capital Economics predicted that the Bank of Canada will lower its rate to 0.5% perhaps in April or June of 2012.

These predictions add even more encouragement to home owners and home-buyers who continue to speculate on a floating mortgage rate.

Any possible reduction in the bank rate is likely to depend on the strains from the debt crisis in the EU, fears for the global economy, and falling inflation levels.

Inflation may well be the key to what happens with the future bank rate, since 2011 ended on a small sour note that inflation had crept up instead of down.

Madani predicted that commodity prices would fall "sharply" next year and "somewhat further" in 2013, because of weak global demand - that a downturn in the U.S. would result in a drop in exports to Canada's main trading partner, and that housing prices here in Canada would slump.

But, as with the inflation rate, every variable economic factor suffers from the unexpected.

Bank of America Merrill Lynch, remarked of Canada's housing market that it shows the "classic signs of over valuation, speculation and over supply".

Their Canadian analysts considered the record Canadian household debt and increased joblessness causes for concern over the next year, and anticipated there will likely be fewer sales, and prices could slip as much as 5 per cent in the next year. But, he added, there is no reason to believe there's likely to be "an epic crash of American proportions."

On the other hand, CMHC predicted that house prices would hold in 2012.

Meanwhile, the Canadian Real Estate Association reported that November sales of resale homes in 2011 rose 6 per cent, while prices added 4.6 per cent year over year - which increased to 5.2 percent at year end - making it the third straight month that national activity was up from the month before. Moreover, Canadian home values have doubled since the year 2000.

2012 will be no different than the past 5 years - insofar as indicators support multiple, often contradictory market predictions, and outside forces over which we can have no control, will ultimately determine the market's fate.

• While sales are expected to moderate in 2012, much the same was forecast for 2011 when sales rose instead, all of which suggests a stable market.
• While fears of a "housing bubble" set to burst predominated in 2011, prices are expected to hold or perhaps slip by at the most 5%. In the meantime, Ottawa home prices continue to rise.
• While total new building starts fell in 2011, the end of the year saw a sudden large increase in starts for row houses, suggesting builder optimism for lower cost housing in 2012.
• While even a slight mortgage rate increase was felt by many to be inevitable, and the thin edge of a wedge that would cascade through and gut the economy, the Bank of Canada instead indicated flat rates for at least another 18 months, and some economists predicted an actual decrease!

All then would seem to be a wash - more of the same, with little indication of catastrophe on the horizon - except that a few significant factors are soon to be introduced: the inevitable reduction of civil-service jobs in Ottawa-Gatineau, as a consequence of Federal Government program cutbacks, and the additional reduction in the region's prosperity, as a consequence of Federal Government cuts to civil-service pensions, and claw-backs of, and reductions to the Canada Pension Plan and supplements.

It is difficult to predict what the impact of these cuts will be, or the extent to which they will cascade into other sectors that rely on a large, stable work force in the region.

It is also difficult to predict the extent specifically of the civil-service job losses since the basis of the government program cuts that precede them do not appear to follow a linear logic.

While the government deficit is apparently to be paid down as quickly as possible - the deficit being the stated justification for the program and job cuts - that deficit is in fact the lowest of any country in the G7.

Moreover, the deficit is entirely the creation of this government in particular - which inherited a large surplus from its predecessor - and consists largely of payouts to areas of the country evidently in which it found its most numerous supporters.

The Globe and Mail characterizes these cuts as coming directly from Federal Program spending, of which civil-service salaries form a significant part, as opposed to the cuts that occurred during the Paul Martin years, which reduced spending across all sectors and thus spread austerity across the country, rather than focusing the brunt of it onto a single region.

It would appear that, in effect, Ottawa-Gatineau residents are being made to shoulder the costs of the aforementioned payouts to other targeted areas in the country, by redistributing their salaries and pensions as well as the region's prosperity.

There is no basis in economics that justifies this type of logic, so using logic to predict where specifically cuts will be, and their amount, fails to illuminate any more than simple speculation.

And of course, many have done just that...

The Ottawa Citizen , for example cites a study by The Canadian Centre for Policy Alternatives "a left-leaning think tank" estimating that "at the most extreme, the [capital] region could see more than 22,000 jobs disappear by 2014-15, driving unemployment to 9.2 per cent. The report says the most likely scenario is about 11,000 lost jobs in the region".

In contrast, The Conference Board of Canada, a "right-leaning think tank", has estimated the region "would lose about 9,000 public administration jobs in 2011 and 2012".

From these estimates we can ourselves reasonably speculate that, between the public and private sectors, perhaps 10,000 to 12,000 of the region's most stable and well-paid jobs could disappear in the next year or so, bringing the local unemployment rate to about 7.5%, an increase of about 30%.

With no other economic sector in the region available to absorb these workers, it's doubtfull that many will find steady or well-paid employment again - if they are able to find work in the region at all. Many will be forced to retire on their reduced pensions, or to leave the area.

These scenarios will surely undermine the economic prosperity of the region, which would force home prices downwards due to the glut of homes on the market, and the net worth of countless families to be reduced.

It's inconceivable that a rash of mortgage defaults could be avoidable, under these conditions, which would in turn place more stress on an already impossibly low vacancy rate for rental accommodations.

The current government has never made any bones about its intention to shrink the civil service at the earliest opportunity, and this is it - that point in time when deep cuts can be made without fear of retribution by opposition parties or voters. The irony is that, if the government proceeds in this fashion, many civil servants will have literally voted for their own job loss.

Clearly civil-servants, or those employed by companies that serve the Federal Government, should not be taking on any new debt until this shift in government spending has been more clearly defined and executed. It would seem unlikely that that could happen definitively before next Fall or Winter.

Others that are thinking of buying a home should ensure that the price they pay is realistic, in terms of the home being able to maintain its value should the market dip. If the civil service job cuts are even at the low end of the range discussed, there is sure to be an indication of whether or not to expect downward pressure on home prices by next Fall or Winter also.

With respect to mortgages, because of the explicit assurances of the Bank of Canada and generally poor global financial outlook, it is probably safe to remain with a variable rate for the next 18 months, after which current indicators will decide the best path from there.

Hold on to your hats - if the government proceeds to cut programs and thus jobs in the manner many fear, we may be in for the period of uncertainty already being experienced by so many other communities across Canada, the US and Europe!

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