If you follow the real estate market—and who doesn’t nowadays?—you’ve likely noticed growing speculation about new mortgage rules.
Home prices are seemingly out of control, with national average prices up a shocking 25% y/y — amid a recession no less. “Canada hasn’t had a market overheating of this scope since the late 1980s,” says RBC.
A growing chorus of analysts now claim that the only near-term practical fix is new mortgage regulation.
Cases in point:
Housing policy must ‘break the psychology’ to cool prices: BMO
Hot Canadian housing markets call for a policy response: RBC
The pace of house price growth…is not sustainable: CMHC
“If the housing market fails to moderate and/or signs of a speculative-driven bubble further mount in the coming months, policymakers could be pressed into action to cool housing activity, not unlike the macroprudential and tax measures undertaken in 2016 and 2017,” said TD. “This appears to be more of a risk for later this year or in 2022…”
But BMO says the fix cannot wait. “We believe policymakers need to act immediately,” the bank warned Tuesday.
When banks start publicly asking to be regulated, it’s usually because they already know that regulation is coming and they want to seem prudent. We still remember back in December 2010 when TD’s and BMO’s CEOs started advocating for stricter mortgage rules. Lo and behold, the very next month the Department of Finance announced a cut to the maximum amortization.
Feds Feel the Heat
Never before have so many homebuyers been so leveraged. One of policymakers’ favourite metrics, loan-to-income (LTI), shows a record number of homeowners with LTIs over 450%.
Source: OSFI
If you’re a regulator sitting at your desk in Ottawa, you’re feeling the weight of potential housing calamity on your shoulders. And now you’re hearing banks, who make billions on mortgages, tell you to reign them in on lending. What do you think a regulator is prone to do in that case?
They’re likely going to do what they did in 2008, 2010, 2011, 2012, 2013, 2015, 2016, 2017 and 2018 — announce more restrictive housing policies to slow debt accumulation and stabilize the housing market.
And, we believe from talking with well-connected industry folks, they’re going to do it in April or May—possibly even in the April 19 budget.
What Could They Do?
Here’s a sampling of potential rule changes and our valiant guesses as to the probability of each happening this year:
Reduction in maximum debt service ratios
Probability: 50%
Major new supply creation initiatives
Probability: 45%
Tighten rental financing guidelines (e.g., no borrowed down payments)
Probability: 40%
Higher minimum credit scores:
Probability: 30%
BoC rate hike
Probability: 20%
Increasing the minimum down payment to 10%
Probability: 20%
Increasing the minimum equity to avoid default insurance (and to refinance) from 20% to 25%
Probability: 20%
New national foreign buyer tax
Probability: 20%
Stricter capital requirements for banks
Probability: 20%
Elimination of limits on interest-only HELOC payments
Probability: 20%
Prohibition on unsecured down payments
Probability: 15%
Rigid debt-ratio limits on non-conforming loans with 35%+ equity
Probability: 15%
New limits based on the “loan-to-income” ratio
Probability: 15%
Forcing 30-year amortizations to qualify at a 25-year amortization
Probability: 10%
Lender-paid deductibles on default insurance (a.k.a., “risk sharing”)
Probability: 15%
Prohibition on blind bidding
Probability: 10%
Eliminating interest deductibility for real estate investors
Probability: 5%
Speculation tax on shorter-term property holds
Probability: 5%
Remove principal residence tax exemption when selling
Probability: 2%
Side note: CMHC has confirmed that it’s revamped First Time Home Buyer Incentive, which (as proposed) will allow far more buying power in greater Toronto, Vancouver and Victoria, “it is still expected for the Spring.” Critics will charge that CMHC is fueling overvaluation with this change, so expect some fireworks.
How We Got Here
Years of governmental housing supply mismanagement have added to COVID-related listing shortages and helped get us to this point. Housing inventories are at never-before-seen lows.
And of course, those aren’t the only fundamentals behind these astronomical price gains—consider the income and employment gains we’ve seen in the homebuyer demographic, record-low interest rates and record savings rates. National Bank CEO Louis Vachon says, “…I think we somewhat understand what’s behind the housing activity. It does not appear to be excess leverage.”
RBC economist Robert Hogue phrased it best last week, “One thing is certain,” he said. “There are no silver bullets. All demand-side options have side-effects and work, at best, for a limited time.”
But the feds never let that stop them before. They’re running scared because they’ve fallen behind the curve. They’ve got to do something to counter market psychology and the melt-up in home prices, and they will.
Bank of Canada Governor Tiff Macklem told the Financial Post, “you are seeing, on average, the loan-to-value ratios are getting higher, particularly in the uninsured [mortgage] space. That suggests that Canadians are stretching and that is worrying.”
Indeed, it is systemically dangerous when home prices go parabolic. It makes more people highly vulnerable to economic shocks. But it’s even more worrisome when a record number of people think that Canada’s “house tulips” will continue growing to the sky. That perilous “extrapolative” mindset is creating beads of sweat on regulators’ foreheads.
For her part, Finance Minister Chrystia Freeland says, “We are of course watching housing markets across the country very, very closely and carefully.”
You bet she is, because she and/or the bank regulator may be about to prick the housing balloon. And if they do—and depending on what they do—double-digit home price gains could be a fond memory for at least 2-3 years.