House prices across the world have surged in the past 18 months or so. Looking at Canada specifically:
But I suspect prices will fall significantly in the next 5 years. I don’t know when but I strongly believe there are long term trends that should push prices down:
- Remote work: there should be less concentrated appreciation of prices: developers + remote workers will naturally migrate to underpriced areas
- Corporate real estate: office buildings, parking lots and retail shops will increasingly be turned into residential real estate
- Interest rates: I can get a 5 year fixed mortgage rate for <2.5%, many people have rates <2%. Historically, 5 year fixed rates have almost never dipped below 5% (https://www.ratehub.ca/5-year-fixed-mortgage-rate-history). What happens when rates inevitably rise and mortgage payments double? At minimum it will dampen demand, at worst people will default.
- Pulled forward demand: whenever demand for something increases, there’s a risk that the demand was simply pulled forward from the future. Could low interest rates and changing preferences due to Covid have pulled forward demand from the next few years? Especially given the expectation that rates will rise soon.
- Government intervention: one of the most pressing issues for many Canadians at the moment is housing affordability (cost of living is #1, housing affordability is #6 — https://nationalpost.com/news/politics/election-2021/opinion-we-asked-canadians-for-their-election-priorities-heres-their-top-four). You’d expect the government to take aggressive steps to address this and they do have some tools at their disposal.
- General frothyness: almost all assets have appreciated significantly in the past 2 years. What happens if some of these come back to earth? How would that impact home prices?
- Growth of digital experiences: you can create a pretty entertaining home life with just Netflix, gaming, Spotify, YouTube, eBooks, Reddit etc. As digital experiences + relationships become more important, physical location becomes less important
- New home builds: people almost always over adjust. In the case of developers, they build too much when times are good and they don’t build enough when times are bad. I suspect that developers will over adjust to the current housing market and build too much over the next 5 years or so. Consider housing starts per month (1000s) in the past 25 years and you can see that we’re at an all time high, even beyond the 2006–2008 period:
- Affordability: maybe the most obvious mechanism for a correction is simply: there is a ceiling at which people can afford homes. The ceiling is different for every person and region but as prices rise, the ceiling comes closer. Maybe we’re getting there in most scenarios? As one data point here, the price of homes relative to incomes has never been higher:
The counter argument to all of this in Canada would be:
- Demand is going to continue rising because of strong immigration
- People’s home needs have changed, everyone now wants more space — permanently pushing up demand (it’s easier to serve demand if everyone is looking for a 1 bedroom apartment instead of a detached house)
- Supply will continue to struggle due to supply chain issues, labour shortages and the fact that building new houses is always a slog
But I’d bet on the the factors pushing prices down to overpower those pushing prices up, at least over a 5 year time horizon.
