"The latest move by the Bank of Canada will wash away any remaining froth"
The Bank of Canada (Boc) recently made the hefty decision of raising the interest rate by a full percentage point, but a senior economist at BMO Capital Markets is claiming that the move is setting up the housing market for a deeper correction through 2023.
In a note to investors, Robert Kavcic (pictured) likened the move to taking a hammer to the housing market: “The fact that the market had already cracked after the BoC’s initial move in rates only reinforced how sentiment-driven the market was, and how quickly that can change.”
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The increase resulted in increased prime rates among commercial banks, locking out aspiring homebuyers from qualifying for a mortgage. Under the new stress test, the qualifying rate for uninsured mortgages is set at either 2% above the contract rate or at 5.25% – whichever is greater.
Prior to the rate hike, most variable-rate borrowers met the 5.25% mark but that has since shifted to around 6%. Meanwhile, fixed-rate borrowers have it worse at 7%.
“Unlike previous rounds of tightening, this move now also begins to carve into purchasing power on paper,” Kavcic wrote.
The cost of borrowing has jumped from 1.5% to 4.5% within the span of six months, cranking the monthly mortgage payment by almost 40%. Granted, 4.5% is still considered historically low compared to the 14.25% in 1990, but Kavcic said the rapid shift seen today is even worse than what was experienced in 1990 after adjusting for income growth.
“In an abrupt turnabout, more Canadians now expect lower home prices ahead than higher prices, and that was before the BoC’s 100bp hammer,” Kavcic wrote. “At the same time, one-third now expect prices to fall – the low was around 5%, or basically nobody. We’ve argued all along that there was a major behavioural aspect to what was happening in Canadian housing, where acute price gains were driven by FOMO, speculation and investment activity.
“Indeed, the proof is that even just an initial nudge in interest rates was enough to crack expectations and trigger a correction. The latest move by the Bank of Canada will wash away any remaining froth.”
