The Motley Fool

3 Baffling Reasons Housing Prices Are Going Parabolic

Image source: Getty Images

Canada’s housing market was most active last year, notwithstanding a health-threatening pandemic. The Canadian Real Estate Association (CREA) reported home sales of 551,392 — an annual record. It was 12.6% higher than in 2019. In December 2020, the seasonally adjusted annual rate of home sales went above 700,000 for the first time.

The market’s behaviour is crazy, as it defies forecasts by the Canada Mortgage and Housing Corporation (CMHC) that prices could drop by nearly 20%. Instead, even average home prices in key markets like Toronto and Vancouver rose 20%. The boom is unprecedented, and the following reasons are why prices are going parabolic.

Pent-up demand

The lockdowns and shift to the work-from-home environment started an exodus to suburban areas. Suddenly, families are looking for bigger living spaces outside major cities. According to Diana Petramala, an economist at the Centre for Urban Research and Land Development, the trend was developing pre-pandemic. COVID-19 only sped up the process.

Historic low interest rate

Besides the cross-country trends, the historic low mortgage rates contributed significantly to the real estate frenzy. With absurdly low borrowing costs plus government transfers due to the pandemic, Canadians increased their purchasing power. According to an RBC Economics report, the federal government was overly generous.

In Q2 2020, the labour market lost $23 billion in salaries and wages, but the emergency programs like CERB reached $56 billion. Thus, the replacement was $2.50 for every dollar. Moreover, since the housing supply was relatively low, bidding wars erupted in markets across the country. Prices doubled amid rising unemployment numbers.

Speculative activity

For months after lifting restrictions, many Canadians didn’t want to miss out on home buying opportunities. In Q1 2021, CIBC’s deputy economist, Benjamin Tal, warned of speculators distorting the housing market and driving prices higher. Robert Hogue, an economist at RBC, said, “Rising prices often invite heightened speculative activity, which adds more fuel to already hot markets.”

Earn rental income like a landlord

Real estate investment trusts (REITs) are the next-best alternatives to buying physical properties in 2021. Would-be investors can still earn rental-like income, for example, from Nexus (TSX:NXR.UN). The industrial-focused diversified REIT is growth-oriented. This $340.35 million REIT owns and operates 85 properties, where 50, or 58%, are industrial properties.

In Q1 2021, property revenues increased by 6% versus Q1 2020, while net operating income (NOI) grew 8%. Nexus began trading on February 4, 2021. The real estate stock has gained 24% since its debut. It now trades at $10.12 per share. Nexus offers a dividend yield of 6.34%.

Assuming your available Tax-Free Savings Account (TFSA) contribution room is the maximum ($75,500), you can generate $4,786.80 in annual tax-free passive income. The high 94.4% occupancy rate and weighted average lease term of more than five years makes this REIT a viable investment option.

Growing concern

The concern of policymakers today is rising household mortgage debts. Statistics Canada reports the debt level grew 1% in April 2021 to $1.69 trillion — the fastest pace since 2010. Also, the $17 billion residential mortgage credit increase during the month was the largest one-month increase ever.

For REIT investors, the commercial and retail sectors are the sectors to avoid because their recovery could take time. The industrial sector will continue to benefit from the e-commerce boom. Also, residential construction should rise if the housing shortage persists.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Christopher Liew has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned.

Two New Stock Picks Every Month!

Not to alarm you, but you’re about to miss an important event.

Iain Butler and the Stock Advisor Canada team only publish their new “buy alerts” twice a month, and only to an exclusively small group.

This is your chance to get in early on what could prove to be very special investment advice.

Enter your email address below to get started now, and join the other thousands of Canadians who have already signed up for their chance to get the market-beating advice from Stock Advisor Canada.