‘The Economist’ – Rental Income Shows Canadian Home Prices Are 71% Overvalued

‘The bursting of the global housing bubble is only halfway through’.
Home prices tumbled by 34% in America from 2006 to their low point earlier this year; in Ireland they plunged by an even more painful 45% from their peak in 2007; and prices have fallen by around 15% in Spain and Denmark. But in most other countries they have dipped by less than 10%, as in Britain and Italy. In some countries, such as Australia, Canada and Sweden, prices wobbled but then surged to new highs. As a result, many property markets are still looking uncomfortably overvalued.
To assess the risks of a further slump, we track two measures of valuation. The first is the price-to-income ratio, a gauge of affordability. The second is the price-to-rent ratio, which is a bit like the price-to-earnings ratio used to value companies. Just as the value of a share should reflect future profits that a company is expected to earn, house prices should reflect the expected benefits from home ownership: namely the rents earned by property investors (or those saved by owner-occupiers). If both of these measures are well above their long-term average, which we have calculated since 1975 for most countries, this could signal that property is overvalued.
Based on Incomes, home prices are 29% overvalued in Canada.
Based on Rents, home prices are 71% overvalued in Canada
[The most overvalued by this measure of any of the global markets studied. -ed.]
Canada has an even higher household-debt burden in relation to income than America did at the peak of its bubble.
– excerpted from ‘House of horrors, part 2’, The Economist, 26 Nov 2011. Image from the Huffington Post, Canada, where the story was headlined as: ‘Canada’s Housing Market More Overvalued Than U.S. At Its Peak, The Economist Says’.

None of the above comes as anything new to readers here.
Only wackos like Vancouver RE bears and ‘The Economist’ go on about something as passé as ‘fundamentals’.
Gravity will reassert; we will revert to the mean; perhaps overshoot. – vreaa

20 responses to “‘The Economist’ – Rental Income Shows Canadian Home Prices Are 71% Overvalued

  1. This article says it all. Bravo, Economist! Note: this piece refers to real estate at the national level. The crash in Vancouver is going to be all the more spectacular.

    • Correct.
      71% overvalued means that a price drop of 41.5% would bring prices back to fair value by that fundamental measure. That’s for Canada as a whole.
      We still predict price drops of 50%-66% here in Vancouver, perhaps more.

  2. I suspect there might be some demographic issues compounding the drop vreaa…by the time the crash in Vancouver RE hits we should be well into the boomers fire-sale to fund their retirements, it may sag much further than we expect- the credit ratings of the 25-55 set will have been destroyed largely by then too from overextended mortgages, LOC’s and just general over extension of consumer debt; there wont be any credit worthy (or well to do, for that matter) people left to buy *anything* pretty much….

  3. I have been continually surprised at how unwilling many people are to entertain the possibility that Vancouver might be in a massive speculative bubble. They literally see New York and Hong Kong as plausible near-term destinations for the city and justify prices accordingly.

    Hey maybe they’re right. I cannot state with absolute certainty that prices are going to fall. The difference between me and them? They refuse to even entertain my thesis is valid.

    Vancouver’s market seems like one of those video game end bosses that keeps throwing out fire, metal stars, lasers, magma, lightning, and tornadoes. We keep hitting it with our single shot guns, but it just gets redder and redder, then flashing, then little bits of fire start coming off its scaly back. Eventually it explodes and we win, it just takes longer than we thought it might.

  4. Yeah, the crash will be epic. But the biggest question is when?

    Btw, be the time it crashs, it kills bears and bulls. (Your RBC shares will be at $5. MSP will be $1500/mo)

    It kills the whole freaking town.

  5. I literally LOLed at the end boss analogy.

  6. Vreaa, I guess you’ve already seen this one:

    “Delay in axing HST nail in home-builder coffins”

    “Doug Day has seen plenty of ups and downs in the home-building business, but he’s never seen anything like the “kiss of death” delivered by the HST.

    The hated tax is hammering the sale of new homes — and not just ones priced above $525,000, the threshold where tax-offsetting rebates disappear.

    “All home sales are getting hit, because there’s so much buyer con-fusion out there,” said Day, president of University Heights Development Corp. in Squamish. [and who created the freaking confusion in the first place???]

    Now he wants to hit the government back — in court.”


    “”No one wants to buy a new home until it’s sorted out, because it’s tens of thousands of dollars in tax on one house. Everybody is waiting, waiting, waiting.

    “It’s killing us.””


    “you’re talking about someone’s life’s savings.” [or jumbo mortgages mabe?]

    Johal was supposed to break ground on 10 $2-million homes in Richmond this January. But now that market has ground to a virtual halt.

    “If people know they can dodge the HST if they just wait, of course they’ll stay on the sidelines. Why doesn’t the government do something?” [let’s get the taxpayers pay for that, yeah right?]


  7. I just want to point out that rent prices are actually depressed in Toronto in real terms. There is a lack of qualified renters.

    I say this because I’ve been doing this for 15 years and there has been a gradual insidious change as more people buy houses. If 70% of people now own, and 30% do not for a large part the reason is that that 30% is not qualified for a mortgage.

    When I look at the criteria used for credit score with my credit checking system, the credit score used for an approved renter is 700, yet CMHC will approve a mortgage for someone with a score of 620 which makes me chuckle a little. My rental screener tells me to decline those with that score. Of course I can’t, you have to pick from the tenants that apply not those you dream about getting!

    Rents have gone down in actual terms in apartment buildings. Condo rentals are skewing the market.

    • As a follow-up to Rachelle’s post, I would only comment that statistics on rental rates and vacancies (at least in Toronto) are heavily skewed by the way the data is collected.

  8. Isn’t this the same magazine that slammed Vancouver as a best place to live because of traffic on the Island? So now that they are saying what many think do we give them credit?
    The Economist knows nothing about the area or the issues. Yes, P/R is out of whack. Yes P/I is out of whack. But 71% and 29%? Not for Vancouver. Face it. Vancouver is a small town with big city aspirations but highly constrained development potential. That will keep prices high. Renters can only afford so much so expect P/R to be out of whack forever! That will be offset by gains which will be made, or should be made, over the long term. The HST debacle will just delay more homes being built and put further pressure on prices as new homes will not be built. P/I is a tougher measure but that is often offset by foreign money coming in. If we take that 70% ownership and 30% rental rate as stated above, and we combine the recent news that 20% of homes in Vancouver proper are bought by foreign money, that leaves only 10% of homes where we’re just not sure how they are affording them. My bet would be that they are owned by major institutions (REITS, Insurance, etc. like in throughout the West End). Face it, despite all of our head-scratching and bewilderment, Vancouver just doesn’t have a glut of homes and a ways to fall… unless all those locals can’t afford them sometime over their 30+ year mortgage… then you better watch out! See, Vancouverites have leveraged themselves to the hilt in the hope and plan that life will always be good and rosy. We here at VREAA fear a repeat of the past dips.

  9. @Rob. I don’t think one has to be familiar with the “area or the issues” to see how unsustainable Vancouver RE prices are. The Economist is looking at the big picture, something a lot of locals can’t / won’t do. The laws of economics still apply to Vancouver. It no more “different here” than it was Phoenix or Miami. As for the glut in houses, just wait. It will come when all the marginal owners, who should never have bought in the first place, realize their folly. And it will grow as people realize their houses are worth half what they thought, debt remains unchanged, and greed turns to fear…

  10. Rob: “If we take that 70% ownership and 30% rental rate as stated above, and we combine the recent news that 20% of homes in Vancouver proper are bought by foreign money, that leaves only 10% of homes where we’re just not sure how they are affording them.”

    Rob, it’s not clear what you mean by the above: please clarify.

  11. The laws of economics still apply to Vancouver. It no more “different here” than it was Phoenix or Miami.

    Economics is not a science – there are no laws.

    Real Estate is inherently local, so every place is different.

  12. Robert, please. You’re dwelling on semantics. You get my meaning. The same forces of supply and demand, reversion to the mean, greed and fear, etc. apply as much in Vancouver as they do anywhere else.

  13. P.S. Robert. There comes a point when the spread between price and value is so wide that the local nature of real estate loses all relevance. You could have argued that each city and state in the U.S. was local, and hence “different” from the next. But guess what, real estate prices collapsed across the country.

  14. Always the land constraint, prices will stay high angle. I get way better income, diversified, elsewhere.

    PS “income” includes special assessments, my time, all expenses (not just strata fees and taxes…), and risk.

    Very difficult to hedge RE directly, though Cdn. RE these days seems sensitive to rising rates, I just don’t know how soon.

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