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‘Domino effect’: Analysts warn of immediate hit from housing rules

Looking southeast across an empty field beside McCowan Rd towards housing on the south side of Major MacKenzie Dr. East near Unionville, Ont. on Oct 13 2016.

Fred Lum/The Globe and Mail

Analysts are predicting that Canada's housing market will take an immediate hit from the latest round of mortgage rule tightening Ottawa unveiled this month. But they are divided on just how dramatic the effects will be.

Some say the changes – including higher qualifying rates for borrowers with low down payments, restrictions on how lenders use mortgage insurance and a crackdown on tax loopholes for sales of investment properties – will trigger a hard landing for the market. Others expect housing prices to keep rising, but at a slower pace.

"We believe that the new measures will both speed up and harden the landing that we previously expected to occur in the year ahead," Royal Bank of Canada economist Robert Hogue writes, "although they are unlikely to cause a 'crash.' "

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One reason it has been difficult to forecast the impact of Ottawa's new rules is that financial institutions release few details about their mortgage businesses, making it hard to estimate exactly how many buyers might be affected by the changes, or where they live.

This week, the Bank of Canada forecast that the tighter regulations will reduce the country's GDP by 0.3 per cent by the end of 2018. But even the central bank cautioned "there is considerable uncertainty around the overall impact of these new measures on the economy."

Analysts agree on one thing, however: The Canadian housing market is headed for a cool-down in the coming months.

Moody's Analytics and Brookfield RPS

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Prediction: Home prices will continue to rise, but price growth will slow from 7.9 per cent this year, to 5 per cent in 2017 and 2.9 per cent in 2018.

Time period: Now until 2021

U.S.-based Moody's Analytics believes that Canadian home prices will continue to rise over the next five years, but at a much slower pace thanks to the new mortgage insurance rules. Benchmark price growth will slow from nearly 8 per cent this year to less than 3 per cent by 2018.

Using data from the Brookfield RPS home price index, Moody's predicts that the only major urban market that will see prices fall will be Edmonton, while prices will continue to rise in other centres.

Vancouver will be harder hit by the slowdown than Toronto. By 2021, average single-family housing prices will have grown 6.7 per cent in Toronto, but just 1.8 per cent in Vancouver. Meanwhile, smaller markets including Saskatchewan and Newfoundland "are in for a rough two years."

Ontario will remain the country's strongest housing market for the next five years, although Moody's also pointed to a recovery for Calgary's housing market as well as for Saint John.

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Moody's forecasts hinge on its predictions that oil prices will see a modest recovery and that the Bank of Canada will be forced to hike its key interest rate by two percentage points within the next five years.

Economist Will Dunning

Prediction: Resale market activity could fall 25 per cent over the next two years. Prices could fall 8 per cent to 10 per cent. Housing starts will fall 15 per cent a year over the next two years.

Time period: Now through 2018

Economist Will Dunning believes the new rules will have a broad and significant impact on the Canadian housing market, so much so that he argues the risk that the changes would trigger an economic slowdown might now outweigh the risks of rising household debt that Ottawa is trying to address.

He estimates that roughly one-third of all new home buyers in Canada will be affected by the stricter "stress test" for fixed-rate insured mortgages. Of those, a quarter to a third may not be able to qualify for a mortgage under the new rules.

The rule changes will initially slash home resales by 6 per cent to 10 per cent. But Mr. Dunning predicts sales could slide as much as 25 per cent over the next two years given that decreased demand from first-time buyers will make it harder for some current homeowners to sell their properties to buy larger homes or downsize.

Housing starts could drop a total of 30 per cent, with a slowdown starting in the second half of next year and hitting bottom in 2018.

Home prices will be slower to react to the changing market, he says, with prices beginning to fall in the middle of next year and dropping a total of 8 per cent to 10 per cent by the end of 2018.

Alberta, Saskatchewan and Newfoundland will be hardest hit by the new rule changes, he says. Vancouver's market will continue to cool thanks to the new rule changes and B.C.'s foreign buyers tax, while Toronto will shift from "extremely hot" to merely "hot."

Mr. Dunning is the chief economist for Mortgage Professionals Canada, a mortgage broker industry group, but published his analysis of Ottawa's new rules independently.

Central 1 Credit Union

Prediction: Resale activity will fall 10 per cent to 20 per cent. Prices will drop 5 per cent to 10 per cent. Housing starts will fall 10 per cent to 20 per cent.

Time period: Now until mid-2017

Home buyers could lose as much as 20 per cent of their purchasing power thanks to Ottawa's new income stress test for mortgages to borrowers with down payments of less than 20 per cent, writes Helmut Pastrick, chief economist for Central 1 Credit Union. Central 1 is a financial clearing house and trade association for credit unions in British Columbia and Ontario.

First-time buyers represent about 25 per cent to 35 per cent of the housing market and Mr. Pastrick estimates as many as three-quarters of "low-equity" home buyers will be affected by the tougher new qualification rules.

That will have a "domino effect" on the market, pushing down home sales, new home construction and economic growth, but encouraging the Bank of Canada to keep interest rates low.

While it will take several months for the changes to show up in national home-sales data, the market's reaction will be immediate. Home sales will fall as much as 20 per cent over the next six months, while prices will drop as much as 10 per cent.

Mr. Pastrick expects the change to have a more significant impact on less-expensive local housing markets, which tend to have a higher share of home buyers with low down payments than the costly markets of Toronto and Vancouver.

Even so, Mr. Pastrick predicts Canada is in for a "mild correction" and that the market will begin to rebound starting in the middle of next year, driven by continued low interest rates, along with population and income growth.

Bank of Montreal

Prediction: Home sales will rise 5 per cent this year before falling back 5 per cent in 2017. Prices will drop 1 per cent to 2 per cent next year, after rising 12 per cent in 2016

Time period: Now through 2017

The new mortgage insurance rules will likely cause "broad softening" in Canada's market, with the most significant effects felt in what a trio of Bank of Montreal economists call the "terrible twos" of Toronto and Vancouver.

Ottawa's changes to capital gains tax rules and government-backed portfolio insurance will have only a modest impact on home sales, BMO says. But the more stringent income stress test for borrowers with low down payments will be a big hit to home buyers, particularly in the country's most expensive markets.

While the economists say it's hard to estimate how many buyers may no longer be able to qualify for a mortgage, they warned "the pool could be deep."

With the latest rule changes, detached houses are now firmly out of reach in both Toronto and Vancouver. But even condos will be a challenge for most Vancouver buyers with down payments of less than 20 per cent. Less expensive markets in Alberta and Saskatchewan will be less affected by the new rules, BMO says.

In the long run, the bank predicts the changes will make Canada's housing market more resilient. "By reducing the risks of a destabilizing price correction and a sharp retrenchment in household spending, the new rules should help sustain Canada's economic expansion," the economists wrote.

Toronto-Dominion Bank

Prediction: Resale market activity could fall as much as 10 per cent. Average home prices could drop up to 1 per cent.

Time Period: Now through 2017

Toronto-Dominion Bank economists predict the new rules could affect 2 per cent to 3 per cent of all resale home transactions across the country and roughly 10 per cent of home buyers who take out insured mortgages.

In contrast to other economists, who say that less expensive housing markets will bear the brunt of the changes, TD's analysts believe the new rules will be felt the most in Toronto and Vancouver.

They estimate that tougher income testing for borrowers with down payments of less than 20 per cent has boosted the minimum income needed to qualify for a typical mortgage by $5,000 across the country. That rises to as much as $17,000 in Toronto and $20,000 in Vancouver.

Vancouver and Toronto are the likely targets of Ottawa's crackdown on foreign buyers and speculators who claim tax exemptions when selling investment properties, as well as new limits on portfolio insurance, a type of insurance for mortgages with down payments of 20 per cent and above, the economists say.

However, they predict the new rules will affect the entire Canadian housing market and "may dampen the still-fragile recovery" in oil-sensitive regions such as Alberta and Saskatchewan.

The recent round of mortgage-insurance rule changes come on top of other moves to cool the market. Those include Ottawa's plans to introduce risk-sharing for lenders who insure mortgages and separate rules announced last month by the country's banking watchdog, the Office of the Superintendent of Financial Institutions, requiring mortgage insurers to hold more capital against mortgages in high-risk segments of the housing market. TD also expects interest rates to creep higher over the next few years.

Combined, the measures will help push down home sales "to more normal levels" in overheated markets, the bank's economists say.

Royal Bank of Canada

Prediction: 10-per-cent to 11-per-cent drop in home sales next year. Home prices will be flat or fall as much as 5 per cent.

Time period: Over the next year

Ottawa's mortgage insurance rule changes will make it more difficult for Canada's housing market to achieve the expected soft landing, but aren't likely to set off a correction, writes Royal Bank senior economist Robert Hogue.

Mr. Hogue predicts that as many as 20 per cent of home sales will be affected by Ottawa's stricter stress test for insured mortgages with low down payments, although some buyers may still be able to qualify for a mortgage.

Nationally, home sales could fall as much as 11 per cent next year, a far more dramatic decline than the 3.7 per cent drop the bank's economists were forecasting before Ottawa unveiled its new housing measures on Oct. 3.

Royal Bank had also expected home prices to rise 2 per cent next year, but now believe the federal rule changes will push prices down 0.2 per cent in 2017.

In a separate analysis, the bank's equity analysts estimate that prices will fall as much as 5 per cent over the next year. That will push down that volume of new mortgage approvals by 12.5 per cent, from $275-billion in 2015 to $245-billion. The second analysis also includes the effects of OSFI's stricter capital requirements for mortgage insurers, which take effect next year.

National Bank

Prediction: 7 per cent of home sales could be affected by the new rules; Prices could fall 10 per cent in Vancouver and 3 per cent in Toronto.

Time period: 2017

National Bank analysts expect the new measures will weigh on country's most expensive housing markets almost immediately.

Senior economist Matthieu Arseneau estimates that about 23 per cent of insured mortgages in Canada are close to the "critical zone" where buyers may not be able to qualify under the stricter stress testing rules. The new rules could affect 7 per cent of national home sales

In a separate analysis, the bank's chief economist, Marc Pinsonneault, predicted benchmark home prices could fall 10 per cent in Vancouver next year, driven by a 20-per-cent plunge in the price of detached homes.

Vancouver home prices have been slowing since March. Mr. Pinsonneault attributed the cooling to a combination of factors, including higher down payment requirements for insured mortgages that took effect in February, the B.C. government's decision to enact a 15-per-cent tax on home sales to foreign investors in the Vancouver area in August and a new 3-per-cent tax on homes worth more than $2-million introduced near the start of the year.

Toronto will face a less dramatic plunge in home prices, Mr. Pinsonneault said. The market is the tightest it has been in 18 years, with sales surging 21.5 per cent in the past 12 months even though listings have fallen 37 per cent. That will continue to help support prices in the region, he said.

At the same time, Toronto likely has a higher share of borrowers who may struggle to qualify under Ottawa's more stringent mortgage stress testing rules compared with Vancouver. Mr. Pinsonneault predicts Toronto home prices will fall 3 per cent next year.

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About the Author
U.S. Correspondent

Tamsin McMahon is a U.S correspondent for The Globe and Mail, based in California. She previously covered real estate for The Globe. Prior to joining the paper in January 2015, she worked at Maclean’s magazine covering business and the economy, where she was nominated for two National Magazine Awards. More

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