Over the past few months, I have posted several items on Canada's overheated housing markets and stratospheric levels of household debt. While those with common sense realize that eventually interest rates will go up and housing values will drop, one has to wonder just how confident Canadian homeowners are about their ability to sustain their monthly payments in the face of rising mortgage rates. Fortunately, Canada's Bank of Montreal (BMO) recently surveyed 1500 Canadian homeowners asking that very question in their Homeownership Stress-Test Report.
First, let's look at how low five year fixed mortgage rates in Canada really are today when compared to historical values back two generations to 1951 in this chart from the Bank of Canada website:
Here is the same data in graph form from 1975 to the present showing that we really are living in an interest rate dreamworld:
According to the BMO survey, the majority (57 percent) of Canadian households are quite confident that they would be able to service their mortgages if interest rates rose by two percentage points. That said, 20 percent of Canadian households indicated that the same two percentage point rise in mortgage rates would hamper their ability to afford their home. The final 23 percent of the surveyed households indicated that they were uncertain whether a two percentage point rise in interest rates would impact their ability to afford their homes.
The question of affordability under a rising interest rate scenario also seemed to be different along gender lines. Only 37 percent of men claimed that they would be unable to afford their homes in a rising interest rate scenario whereas nearly half of women (49 percent) stated that they would have trouble affording their mortgage payments under the same interest rate scenario.
Homeowners’ perception of mortgage stress also varied with location in Canada as shown on this chart:
Albertans were most certain that they could afford their homes if interest rates went up 2 percentage points at 73 percent and were least concerned about losing their home at only 13 percent. British Columbia residents were least certain that they could afford their homes with only 48 percent being certain that they could afford a two percentage point rise in rates and a rather frightening 32 percent being certain that they could not. That is a particularly frightening statistic given that Vancouver has, by a wide margin, the least affordable real estate in Canada when median price is measured in terms of median household income.
Here is a graph showing what has happened to average real estate prices across several major markets in Canada over the past 11 years:
It is quite apparent that prices have risen well beyond what is comfortable for most households, especially given that total household income has risen only modestly. According to Statistics Canada, median total household income across Canada rose from $60,600 in 2005 to $68,410 in 2009, an increase of 12.9 percent over the five year period. Over the same time frame, an average house in Canada rose from $230,000 to a peak of $320,000, an increase of 39 percent as shown on this graph from CREAstats:
Clearly, prices for residential property have outstripped growth in household income, resulting in decreasing affordability, particularly in certain markets. Canada's real estate market could be in dire straits if the 20 percent of Canadians that cannot afford a measly two percentage point increase in mortgage rates are forced to sell their homes, flooding the country's least affordable markets with a surplus of for sale real estate. Having seen Calgary's market flooded with unaffordable homes in the early 1980s, it was rather stunning to see how quickly prices dropped by one-third or more. This time, it could be far worse and far more painful as Canadian "homeowners" find themselves owning more mortgage than they do property.