Canadian Mortgage Broker News - High buy/rent ratio may lead to housing price correction

Canadian Mortgage Broker News - High buy/rent ratio may lead to housing price correction
Tuesday, 19 October 2010

The current high buy/rent ratio may indicate a vulnerable housing market said Desjardins Securities, but others aren’t placing too much weight on the measurement.

Canadian house prices rebounded from the recession, hitting a new record in May and bringing the buy/rent ratio to about 1.85x. This means mortgages are increasingly difficult to afford compared to rent, as house prices increase and rents remain stable.

So, excluding major factors such as taxes and maintenance, homeowners pay about twice what renters pay.

“This is precipitously close to the 2.3x level reached in December 2007 and the 2.5x level reached in 1988, which preceded house price corrections of 13 per cent and 10 per cent, respectively,” Ed Sollbach and Deep Jaitly of Desjardins wrote in a research note.

They added that when the buy/rent ratio hit an “unsustainable” 3.6x in Toronto in 1989, it was followed by a 29-per-cent decline in house prices.

However, at that time unemployment was also rising and a spike in interest rates to 14 per cent forced many homeowners to sell.

The problem with the rent/own ratio is that half of the provinces employ rent control, so prices can’t rise with the broader housing market. For example, house prices in some Toronto neighbourhoods have gained 30 per cent in the last year but Ontario limits rent increases to 2.1 per cent.

“Maybe that’s just telling us that rents are just too low,” said Gregory Klump, the chief economist at the Canadian Real Estate Association in a recent interview with The Globe and Mail. “I’m not a fan of the price-to-rent ratio because it’s so skewed by the fact that rents are subject to rent control.”