Drive behing the Market? Status Fad?

[js97]

The elephant in the room is low borrowing costs. That is pretty well the major driving force.

Psychologically, I think there are some really interesting thinks at play. New buyers don't have any experience with real estate downturns and old buyers have been climbing the property ladder for so many years now they conveniently discount their own experience. With cheap credit available for so long I think a lot of people are living and have expectations of living beyond their means. They also seem to impose constraints on their decision-making as though they wield financial clout beyond their means.

Here is the story of a typical profile of a buyer bidding on a house in the old city of Toronto, fiction but amalgamation of real people:

A couple in their early thirties who spent their 20's in urban settings. All their friends are buying real estate and talking about their renovations. They are thinking about starting a family some time and are being pressured to buy because it is "the smart thing to do" by their boomer parents. They have virtually no savings, they can't save much because their lifestyle eats up almost all their disposable income and they often have to carry credit card balances. Their parents etc. are willing to pony up much of their down payment, a fact they would never admit to their peers. They think 20 percent is an onerously high and safe downpayment amount. They put down less than 20 percent on the home with a mortgage that has a greater than 25 year ammorization period. They buy in a marginal area they believe to be up-and-coming or cool. It's a fixer upper. The have barely ever touched a hammer but watch lots of HDTV. They won a bidding war after raising their "maximum" price they could afford by $100,000 (15-25% of the entire price of the property) but they had to buy now because prices are only going higher and higher. Also, they gave themselves 2 months to find the house because x starts teaching again in the fall and house hunting would be too distracting. Besides, they already had to sacrifice their vacation to y to look for the house. They caved on price because they were so disgruntled at loosing bidding wars and the pressure to buy now was too intense. They basically followed around the same dozens of people just like themselves bidding on the same houses in the same neighbourhood weekend after weekend. But that's just how things are these days, besides they are happy now that they bought something.

I unfortunately believe people like this will find the next decade of their life financial difficult. The story of real estate is not going to be one of collapse and drama, it is going to be about lowered expectations and monotony and struggle.

Coudln't have said it better myself. Talk about hitting the nail on the head!!!

475k for a 1,200 sq ft detached in that area seems reasonable. That's a relatively big house! I can't imagine paint colour, and age of the applicances has much to do with house price. I'm surprised it would have been listed for 419k ... must have been an attempt to get a bidders war. What was the 2008 assessment value?

reasonable? that area is the armpit of Toronto?! Not sure about the assessment, but 3 years ago, that house was probably wortth 299- 330k tops//

1200 is is also a generous measure, looking back now, it's probably is closer to 1000 sq ft. .

 

[lordmandeep]

Has the Bank of Canada not said that as long as inflation stays reasonable, they will not touch rates until the middle of 2010?

yeah but they are concerned that real estate market may be going nuts and if it continues to stay like this till early 2010, they may increase rates.


We all love low interest rates, you can pay down a line of credit so quickly!! However, we know what happens then...

 

[cdr108]

Has the Bank of Canada not said that as long as inflation stays reasonable, they will not touch rates until the middle of 2010? Even then, I really don't see them rocketing up.
Any thoughts?

Jack

i believe Q2 2010 was what was quoted ... that's not that far away.

if the economy is truly coming out of a recession as some have noted, then we can see rates going up soon thereafter ... see Australia as example.

probably not much, maybe 0.25% at first; however, every 0.1% rate increase equals 1% interest payment increase.

but i'd be more concerned with bond rates since most ppl are on fixed rate mortgages.

 

[nfitz]

I'm sure variable rates will start to slowly go up in six months to a year ... but I doubt they will exceed 5 or 6%. It's really unlikely they'll ever get back into 20% range that they hit previously.

 

[cdr108]

I'm sure variable rates will start to slowly go up in six months to a year ... but I doubt they will exceed 5 or 6%. It's really unlikely they'll ever get back into 20% range that they hit previously.

i don't think there's anyone out there that believes rate will hit 20% in the short-term; however, that being said, rates don't have to be that high to do alot of damage.

 

[nfitz]

i don't think there's anyone out there that believes rate will hit 20% in the short-term...

Funny, I seem to recall hearing my father say something like that when he renewed (for 1-year) at 18% ...

 

[cdr108]

Funny, I seem to recall hearing my father say something like that when he renewed (for 1-year) at 18% ...

sorry, i think you misunderstood what i was saying.

it's probably true that he renewed at 18% maybe in the late 80's/early 90; however, i don't think we will see those rates again within the next 5 years (ie. 2009 -2014)

 

[nfitz]

sorry, i think you misunderstood what i was saying.

... umm ... no ... it was a joke, sort of ... that he never thought he'd be paying those kind of interest rates when he bought his house!

it's probably true that he renewed at 18% maybe in the late 80's/early 90; however, i don't think we will see those rates again within the next 5 years (ie. 2009 -2014)

Late 80's? Early 90's? Good grief ... try the Trudeau era ... don't you remember 6 and 5?

 

[cdr108]

... umm ... no ... it was a joke, sort of ... that he never thought he'd be paying those kind of interest rates when he bought his house!

Late 80's? Early 90's? Good grief ... try the Trudeau era ... don't you remember 6 and 5?

ummm ... no, before my time

 

[TrickyRicky]

I don't think we need to think about 20% interest rates. We do need to recognize however that absolute debt is at a record high; however, debt servicing costs are not at historic highs. This means that if you were attempting to avoid a real estate collapse rates can rise but not by much, because there is not much room to grow debt servicing costs before you would generate a large market correction.

If economic recovery is real and sustainable I can't see the factors that would generate strong growth moving forward. There have been some positive signs but the propoganda-like optimistic headline spin on the subject can't mask the fact that the signals are still mixed and economic activity in this country is still being serviced by expanding domestic personal debt levels. This is a fuel source that cannot be sustained.

So basically my opinion is that contrary to popular opinion the economic situation is not robust. What that means is we have created a situation where we are at the mercy of relatively minor changes in key variables creating large consequences. This is why it is so hard to predict what will happen next. It could be nothing, slightly negative, slightly positive or severe, the margin of difference between these outcomes is small. This is why I believe central banks are so skittish and afraid to make any moves.

 

[simuls]

I tend to look at this condo market in a very simple way (NOT the housing market).

Right now, in order to generate almost any cash flow from a 1 bd rental property, the most mortgage you can carry is around $150 000. When the cheapest 1 bd downtown is around $250-300 000 to purchase at minimum and $1400 is the approximate rent, that means that you would need to invest between $100-150 000 per property in order to generate $ 0 cash flow after expenses ($840 mortgage, $250 Property tax, $310 condo fee), not including landlord's insurance, replacement costs, management costs, vacancy costs, etc. That means the only return you're getting is maybe, $200 a month against your principal (assuming $150mortgage and $150 downpayment), or in another way, a 1.6% return BEFORE taxes and inflation.

The rental market is out of step and one of two things has to happen and my bet is on the latter.

1) Rents need to increase approximate 20-30% in order to make this work as an investment,

or

2) property values (specifically condos) need to drop between 10-20%.

I've added it up and the downtown core has approximately 15 000 new condos that will be occupiable, registered and sellable over the next 18 months. That is fully 500% more than came online over the past 18months. It will be very interesting to see how the rental market absorbs these new units as both investors will be wanting to rent/sell, AND current renters will be moving into the units they bought, thus opening up at least one and maybe 2 units for rental (if it's a couple renting separate condos) for each new build. It's the single reason I haven't bought one new property in the past year. I think we will see as sharp a turnaround in supply exceeding demand, in the same way the opposite has occurred over the last 6 months.

 

[MadMax]

I tend to look at this condo market in a very simple way (NOT the housing market).

Right now, in order to generate almost any cash flow from a 1 bd rental property, the most mortgage you can carry is around $150 000. When the cheapest 1 bd downtown is around $250-300 000 to purchase at minimum and $1400 is the approximate rent, that means that you would need to invest between $100-150 000 per property in order to generate $ 0 cash flow after expenses ($840 mortgage, $250 Property tax, $310 condo fee), not including landlord's insurance, replacement costs, management costs, vacancy costs, etc. That means the only return you're getting is maybe, $200 a month against your principal (assuming $150mortgage and $150 downpayment), or in another way, a 1.6% return BEFORE taxes and inflation.

The rental market is out of step and one of two things has to happen and my bet is on the latter.

1) Rents need to increase approximate 20-30% in order to make this work as an investment,

or

2) property values (specifically condos) need to drop between 10-20%.

I've added it up and the downtown core has approximately 15 000 new condos that will be occupiable, registered and sellable over the next 18 months. That is fully 500% more than came online over the past 18months. It will be very interesting to see how the rental market absorbs these new units as both investors will be wanting to rent/sell, AND current renters will be moving into the units they bought, thus opening up at least one and maybe 2 units for rental (if it's a couple renting separate condos) for each new build. It's the single reason I haven't bought one new property in the past year. I think we will see as sharp a turnaround in supply exceeding demand, in the same way the opposite has occurred over the last 6 months.

This is assuming that a lot of these condos were purchased by investors...don't you think these investors (landlords) have crunched the numbers themselves, just as you have?

 

[simuls]

This is assuming that a lot of these condos were purchased by investors...don't you think these investors (landlords) have crunched the numbers themselves, just as you have?

Most of these condos were bought in 2007 at around the same time, so investors wouldn't have been able to see into the future or even notice, during the present what was happening. It was quite the heated market with a lot of inexperienced people involved in investing because of hype (think Big City Broker, etc.). Also, 2007 had, according to most conservative estimates, about 40% of the units being purchased by investors vs. end users - which was different from the previous years. Of course, there are differences between investors (long run) and speculators (quick flip). But even if this number is only 20%, the turnaround in supply could be quite startling.

The only saving grace I can think of is that new condo sales are quite below what they were in 2006/07/first half 08 and very few new launches have occurred this year. That bodes well and means that if excess inventory should arise, there will most likely be at least 3 years to burn through it before the new projects come online in 2012-13 (ICE, Charlie, Burano, etc.) .

 

[lordmandeep]

yeah even though the market is crazy, there are far fewer projects then before.


This will means most projects will likely be mostly sold by the time they are built.

 

[nfitz]

ummm ... no, before my time

They still teach history, right?