Is a soft landing possible in Canada?
Before being completely discredited by the subsequent turn of events,
many industry experts, economists and commentators floated the idea
that US housing prices would moderate a bit, eventually bringing prices
back into line with other economic fundamentals over time. This was the
widely quoted "soft landing" theory of the US Housing Market.
At wikipedia, the following definition for a soft landing is provided:
A soft landing in the business cycle is the process of an economy shifting from growth to slow-growth to potentially flat, as it approaches but avoids a recession. It is usually caused by government attempts to slow down inflation.
Around the same time that people began talking about a real estate
bubble in the US, these soft landing theorists came to the conclusion
there would not be a burst of the bubble, prices would decline a bit,
or more likely, remain steady over time, allowing the housing excesses
to unwind in an orderly fashion.
Some of the common themes of this widely hoped for outcome were the
tendency of interested parties to repeatedly make sunny predictions and
the calling of housing bottoms multiple times, at the point where the
housing markets in the US were only beginning to slide.
Unfortunately, these theorists proved to be oh so wrong.
Now in Canada we begin to hear something similar. The wording isn't
quite the same, because the use of a soft landing theory to predict the
unwinding of Canadian prices would have the unfortunate associative
effect of suggesting a link to the same sort of disaster as in the US.
Can the outcome here really be any different?
Let's look at the run up in house prices compared to US prices since 2000.
This is courtesy a very timely article published at Contrary Investor
in August 2006 - right around the time the US housing market started to
go to the dogs. Titled The Landing Pad,
the article presents a great many of the factors that led to the
implosion of the US housing market, in detail and in advance of it
happening. For instance, look at the chart below. The value of US
residential property had clearly jumped outside the usual long term
pattern of appreciation in a big way. Was this a new paradigm?
A commonly discussed bastion against a severe housing downturn was a
consistently strong employment performance of the US economy in recent
years. However, these statistics have come under some attack. As well,
they were linked in a very direct way to the construction and financing
of housing - so any deterioration in the performance of the housing
market was bound to impact these employment numbers directly.
Alright, but that's America, we learned from their
mistakes and never had loose and dangerous lending patterns to inflate
a bubble here! Hmm, okay, look at this chart of Victoria Residential
dollar volume.
Do you notice any similarities? What about this chart below showing
gains in internet stocks vs gains in US housing? The mimicry of housing
gains with internet stock gains must either prove a) that housing is in
a bubble, because everyone knows there was an internet stock bubble, or
b) there must not have been an internet stock bubble, after all. Hmm,
which is it?
Next is a famous chart by Mish that illustrates changes in attitude
that accompany changes in market conditions, and how those changes almost always lag the actual conditions.
So after looking at all these charts, is it reasonable to assume
Canada is in a different situation, and the soft landing theorists are
going to get it right this time? Not according to Garth Turner, the
maverick member of parliament whose self-promoting, controversial and
compelling arguments are aimed as much at the Canadian gut as the
Canadian brain. And where are Victoria prices going Garth?
However, on the other hand, some realtor and industry groups continue calling for the perfect outcome to the impending housing mess.
Do you think a soft landing is possible? Gradually letting the heat out, cooling, bringing the bubble back to earth, rather than letting the bubble pop? We're about to find out.
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When prices bottom out at 50% their peak level of last December, that will be the "soft landing" after a long, horrific, painfull, precipitous fall.
That's the only "soft landing" we're going to get here in Canada. If we're lucky and it doesn't decline FURTHER than 50%.There's one simple reason why a soft landing was impossible in the US, and highly unlikely here: speculation. During the boom, home buyers took the risk of extending their finances into unaffordable territory based on the expectation of future growth. You see something similar built into every online "rent" vs "own" calculator -- the rate of appreciation you expect helps to determine whether or not buying makes sense. It's perfectly logical to spend 60% of your gross income on a 40-year mortgage for a $400,000 condo if you expect that condo to be worth $500,000 in under three years.
In other words, short term future price increases were factored into buying decisions during the boom. That's why the damn thing was so persistent.
Now it's over, and just to keep things flat, the market needs a continuous supply of buyers who are still willing to spend 60% of their gross incomes on a 40-year mortgage for a $400,000 condo with no prospect of financial gain to make up for the thousands of dollars they will sink into interest payments on the mortgage over the next few years. Just think about that idea -- when renting is so much cheaper, and there's no appreciation to make up the difference vs. ownership, where do these soft landing "experts" expect these buyers to come from? They point to irrelevant positive economic data while ignoring the patently irrational behaviour that they are predicting for future home buyers. They were wrong about the US, and they are wrong about here.
As you say, there's no possibility of a soft landing or "leveling off" because of speculation. As soon as the upward trend stops, all those speculator-owned condos are going to flood onto the market and all the speculator demand is going to evaporate, because the only way buying a $400,000 condo that rents for half its carrying cost makes sense is price appreciation. Without the expectation of price appreciation real estate speculation makes no sense. And without the speculators swapping units with each other, there's less demand and a whole lot more supply, which will drive prices down.
In order for a soft landing to occur, prices would have to remain at record highs despite higher supply and lower demand. That just doesn't happen.
ps. what's up with the colour? Everything is cyan on white and it's impossible to read (Mozilla Seamonkey 1.1.8).
Aleks,
Something went wrong with the style sheet - anyway, I fixed it, if you reload the page it should go back to normal.
I'm expecting to see higher supply all through the spring and summer, that's why I keep doing months of inventory snapshots. Anyway, I don't have a lot of faith in a soft landing, but if the timing means anything, the fact that it starts to be talked about in one way or another seems like a pretty likely leading indicator.
I think it's more of a trailing indicator. The RE pumpers keep trying to paint the current state of affairs in the most positive light possible.By the time they start talking soft landing, appreciation has stopped. They basically always say "what's happenning now will keep happening, it won't get worse". First they say "There is no bubble, this is the new paradigm. Buy now or be PRICED OUT FOREVER (dun dun duuuun)." When that fails, they say "There is a bubble, but it's not going to crash. The market will revert to normal 5% annual growth." Then they say "There will be a levelling off period." And presumably once it becomes clear prices are declining they will start calling the bottom, over and over.
Months of Inventory is a leading indicator.
I see what you mean, I stand corrected. I guess I was just thinking leading indicator in terms of the popular psyche, in that these stories all appeared in the US for a brief period before the actual situation overtook the hype. Which of course MOI would be a good leading indicator for currently.
I'm kind of curious what the situation is with Vancouver condos. I subscribe to the ripple out from the centre view on a price collapse, with vancouver condos being the trigger for the BC market. Once they tank, Victoria condo values won't be able to sustain against that kind of volume that close in a falling market.
Over at Vancouver Condo Info they published an interesting commentary on the condo market. The premise, based on an IMF report, was that the downturn in Vanvouver was still 12 to 18 months away. Considering the current way things are playing out - cooler, but not dramatically increased inventory yet, that may be a pretty good estimate.