Housing still solid investment, bank says

Thursday, April 28th, 2005

A TD economist says there’s little evidence of a speculative bubble in the real estate market

Eric Beauchesne

OTTAWA — Fears that the current housing boom will go bust or that today’s homeowners are over-leveraged are “largely exaggerated,” a major bank argues.

Housing is still a solid investment, TD Bank concludes in a report Wednesday that tries to put to rest what it concedes are widespread worries.

“While a modest cooling in the housing market is in the cards for this year, it’s still on a solid foundation because there is very little evidence of a speculative bubble,” said TD economist Carl Gomez.

One fear is that homebuyers who have been lured into the market by low interest rates will be deeply hurt when rates rise, the report noted.

However, most homeowners still have fixed-rate mortgages and as such are insured to some extent against the risk of rising rates, it said.

And when the Bank of Canada resumes raising interest rates, fixed mortgage rates will likely rise less than short-term rates.

Most variable rate mortgage holders could also simply lock into a fixed-rate mortgage if rates headed higher, it also said.

Further, even if rates were to rise it would initially only result in an increase in the proportion of money that goes toward interest and principal, not to an increase in monthly payments.

Regardless, the risk of a substantial increase in rates is not likely, because inflation is not the threat that it was when the last housing boom in the late 1980s was undercut by surging interest rates, it said.

TD predicted that future interest rate increases will be at a measured pace.

Another concern is that the condo markets in Toronto and Vancouver have become overbuilt, which has created a glut that will lead to a plunge in prices for that type of housing.

However, TD argued the condo market is supported by a growing trend towards smaller households, and the fact that they provide affordable downtown housing, despite high land prices, for buyers such as younger people and recent immigrants.

The homebuilding industry has also put in place strategies such as the pre-selling of condos before construction to avoid over-building, it added.

“So even if demand suddenly cooled, the risk of a supply overhang would not be as great as previous cycles,” Gomez said.

The report conceded, however, that there could be a drop in prices for smaller condos that have recently sprouted up in some markets because they were designed for young first-time buyers who will make-up a smaller percentage of future potential buyers.

Another “myth” is that home prices will collapse as the large baby-boom generation retires and unloads their larger family homes on a smaller pool of younger buyers, it said.

The baby boom generation spans 20 years, so while older boomers may be pondering retirement, their younger counterparts with growing families will still be looking to trade-up to larger homes.

The analysis, however, assumes that the economy grows moderately.

It forecasts that home prices will rise at an average annual pace of about three per cent over the next decade, which it says translates into an after-tax return of nearly six per cent because there are no capital gains on the sale of a principal residences.

© The Vancouver Sun 2005

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