On Wednesday, March 2nd, the Bank of Canada is set to make its second overnight target rate announcement of 2022.
With the consumer price index now at 5.1 per cent, many economists expect the BoC to move up its rate as early as March from its current low of 0.25 per cent in response to sky-high inflation. This would be the first increase to the mortgage-influencing overnight rate since 2018, ending a period of record-low rates that were brought in to support economic recovery during the COVID-19 pandemic.
Should the BoC move its overnight rate on Wednesday, could this shake up Toronto’s hot housing market? In a new report, Toronto brokerage Zoocasa examined the relationship between rate increases and the real estate market by analyzing 2018’s series of interest rate hikes and their impact on the Toronto region housing market.
Late-2010s marked by new housing policies, rate increases
In the mid- and late-2010s, a handful of provincial and federal housing policies were implemented in addition to changing rates.
During the mid-2010s, regional real estate markets like Vancouver and Toronto were experiencing hot price appreciation, a trend that prompted local policy action such as British Columbia’s 15 per cent foreign buyer tax in 2016. According to some theories, Zoocasa says that this may have pushed foreign investors into the Ontario market, fueling more price growth throughout the end of 2016 and into 2017.
Ontario brought in its Fair Housing Plan in April 2017 — which included a 15 per cent foreign buyer tax — several months prior to the federal government’s mortgage stress test that was introduced in October 2017 and implemented in early 2018.
As these policies rolled out, the BoC started to hike rates which could be justified by the economy’s adjustment to lower oil prices.
In 2018, the BoC made three 0.25 per cent increases to the overnight rate, hikes that followed another 0.25 per cent increase made in August 2017. In just over a year, the overnight rate had increased one per cent, landing at 1.75 per cent by the end of the increase cycle, the highest rate recorded in the 2010 decade according to Zoocasa.
Policy changes cooled market as higher rates slowed sales
Rate hikes have a tendency to drop sales, but not necessarily prices, according to Zoocasa.
The brokerage compared the monthly average Toronto region home price and sales volumes from 2017 to 2019 against the average discounted five-year fixed mortgage rate during the same time period to highlight changes between the costs of borrowing and the housing market.
Adjustments to the overnight rate or new policy announcements were also tracked in the analysis. The brokerage used the average discounted five-year fixed rate in lieu of the overnight rate, since this “is the rate that consumers will interact with more closely.”
Based on the three-year timeline, Zoocasa concluded that “it’s clear that the largest price and sale decreases had nothing to do with the Bank of Canada’s increase schedule.”
Instead, after the Ontario Fair Housing Plan was introduced in April 2017, sales and price growth fell off. For example, GTA home prices dropped over 20 per cent from their April peak — more than $100,000 — in the three months after the implementation of the plan. In April 2017, the average property price in the region was $920,791 while the five-year fixed mortgage rate was 2.24 per cent. By August 2017, when the rate was 2.64 per cent, the average price fell to $732,292.
In 2018, just 78,018 transactions were made over the year, but Zoocasa attributes that the likely cause for this was the stress test, which was more impactful as it cut borrowing power for buyers by about 20 per cent.
“Higher borrowing costs coupled with the new mortgage stress test certainly prompted some households to temporarily move to the sidelines to reassess their housing options,” said former TRREB president Garry Bhaura on the GTA 2018 market at the time. “With this said, it is important to note that market conditions were improved in the second half of [2018], both from a sales and pricing standpoint.”
Despite seasonal and monthly fluctuations, prices were relatively stable in late 2017 and through 2018. Zoocasa explained that when analyzing price changes in the months after interest rate alterations, there were small average price movements, “which could be just as easily attributed to seasonal variation as much as the rate hikes themselves.”
“In summary, rate hikes are a sign of economic change, and the uncertainty associated with them seems to cause potential buyers and sellers to wait before getting into the market – leading to a reduction in sales, but not necessarily a reduction in average price,” said the report.
Stress test should act as a “built-in buffer” against rising rates
The next overnight announcement is scheduled for Wednesday, March 2nd, a little less than a week away.
Zoocasa points out that the stress test is designed to ensure Canadians who bought a home during the low rate period would still have a healthy debt-to-servicing ratio if interest rates were to rise. As a result, many households should have a “built-in buffer in their budgets.”
Fixed-rate mortgage holders won’t feel the effects of a higher interest rate until it’s time to renew their term. According to James Laird, co-founder of Ratehub.ca and president of CanWise Financial mortgage brokerage, variable rate mortgage owners will feel the effects of any rate increases immediately.
“While no one will be surprised if the Bank raises the target for the overnight rate, Canadians who hold a variable-rate mortgage or a balance on a home equity line of credit (HELOC) will feel the rate increase right away,” said Laird earlier this week in a statement. “Their interest rate and mortgage payment will go up, and they should budget for further rate increases over the remainder of the year.”
