Canada's red-hot housing market faces interest-rate test

Prospect of higher prices and last-ditch efforts to seize on low mortgage costs fuelled February frenzy, says economist

Canada's red-hot housing market faces interest-rate test

As the Canadian housing market collides with rising interest rates, BMO senior economist Robert Kavcic says the next three months could be crucial.

In a new commentary, Kavcic stated that demand is out of control, with February's sales level around 35% higher than pre-COVID standards. Existing home sales in Canada increased 4.6% in seasonally adjusted terms in the same month (-8.2 percent year over year), as demand remained strong ahead of the Bank of Canada's rate hike in early March.

According to his report, seasonally-adjusted listings increased 23.7% in the month, indicating a solid start to the winter season. The market balance improved as a result, with the sales-to-new-listings ratio falling to 75.3% from 89% the previous month.

That's still a very tight market, but it could be a foreshadowing of how rapidly mood can shift the balance.

“Consider that demand has been boosted by expectations of rising prices and a last-ditch effort to lock in cycle-low mortgage rates, while supply has likely been held back by those same price expectations,” Kavcic said, noting how sellers can postpone listings in hopes of commanding a higher price later on.

Sentiment can shift quickly, he said, arguing that the market could soon achieve equilibrium if it detects lower pricing. It would still take a while, with standing inventory at only 1.6 months' worth of sales at the present rate, which is a new low.

Against that backdrop, prices continued to surge in February, with the MLS HPI up 3.5%, the strongest monthly gain on record. That blows through the pace seen a year ago, and also the fastest clip of the early-2017 period. That leaves national price growth at 29.2% y/y; 39.5% annualized over the past six months; and 44% annualized over the past three months.

While he acknowledged that some supply-side issues have long been worthy of sympathy, Kavcic suggested that the recent movements in housing markets can be chalked up more to current short-term factors.

“[W]hen prices are going parabolic at a near-50% annualized clip, expectations have rooted, investors are driving most of the incremental demand, and Canadians are buying pre-sale condos halfway across the country, those longer-term issues become somewhat trivial,” he said.