February 4, 2013
The Great White North… Housing Bubble?
Is Canada on the verge of one of the biggest housing bubble in the world?
An article in The Atlantic outlines how real Canada’s housing bubble is. In an ideal world the relationship between the stream of income (i.e. rent) and the price of housing should be fairly steady. We can call that the price-to-rent ratio. Calculating this ratio will allow you to determine how undervalued or overvalued housing is. Tip the scales too far in one direction, namely the price of housing, can cause a housing bubble.
Let’s look to Canada now. The Atlantic by virtue of The Economist has beautifully calculated how under or overvalued housing prices are compared to rents. Canada registers a shocking 78% overevaluation in relation to income at 34%.
|From The Atlantic and The Economist|
So what does this really mean? The Atlantic outlines three major takeaways:
- Rich Chinese buyers tend to make for overheated markets. Vancouver is a popular Canadian city for expats.
- Housing busts can take awhile. Boom and busts over a decade leave prices to a fair value.
- Housing recoveries can take forever. Holding money too tight for an extended period of time will keep housing prices dormant for longer.
Before embarking on your house hunting journey, you should first determine what you can afford. A common rule of thumb is that your total expenses and debt payments should not add up to more than 40% of your household income before taxes.
Next, you’ll have to decide on the type and size of mortgage that best suits your needs. The two basic options are a conventional mortgage, which requires at least a 20% down payment; and a high ratio mortgage, which is designed for people who do not have the 20% down payment. If you purchase a home with a lower down payment, you will pay mortgage default insurance, which transfers the risk of default from the lender to the mortgage insurer (see understanding mortgage insurance link for more details).