Economy & Markets

Condo markets in Toronto and Vancouver are vulnerable

By Sunny Freeman |
Source: The Canadian Press

The robust Canadian housing sector, especially the booming condo markets in Vancouver and Toronto, could be at risk in 2012, say the heads of some of Canada's biggest banks.

Gordon Nixon, president and CEO at Royal Bank (TSX:RY), told a banking conference Tuesday that the Canadian housing market could be headed for a slowdown, led by Vancouver and Toronto.

"When you look at markets like Vancouver and Toronto there is a level of caution from a risk perspective that is higher today than it would have been a couple of years ago," he said.

"When you look at the condo side there is probably vulnerability ... it is the area which is most vulnerable with respect to Canadian housing."

Bank of Montreal president CEO Bill Downe agreed there is a risk of a downturn in the housing market, saying the best hope is for a soft landing.

"There is no question that the warning signs around the Canadian housing market have been visible for more than a year," he said, also mentioning Toronto and Vancouver specifically.

He said investor-owned properties are a cause for concern because there is a buildup of supply based on investor expectations that there will always be demand.

Downe said the hope — "and I think it's a realistic hope" — is that the Canadian housing market will plateau and the system will absorb the excess supply built up in those two cities.

The comments of the CEOs came as data showed that housing starts rose more than expected in November to more than 200,200 units, with condos in Toronto and the Atlantic region leading the way.

The influx of multi-unit construction has led some economists to warn of overbuilding, which could leave a glut of unsold homes on the market in the case of a downturn.

A downturn in demand would also likely lead to an easing of Canadian home prices, which The Economist magazine recently declared are about 25% overvalued.

Interest rates are not expected to increase in the coming year, but analysts noted that Canadian households are already at record high debt levels and the growth of both jobs and income has stalled.

However, while the risk of a downturn is higher now than a few years ago, there are significant differences in Canada's market that would prevent a U.S.-style collapse, Nixon said.

A housing bubble in the U.S., caused in part by years of easy credit, burst during the recession and the market there has yet to recover.

The ensuing financial catastrophe south of the border actually created opportunities for Canadian banks looking to expand their U.S. presence as it wiped out competition for banks like TD, said its CEO, Ed Clark.

Meanwhile, Clark said it is a little "eerie" that many of the macroeconomic worries, such as signs of high consumer debt and the impact of slowing GDP growth, have yet to translate into higher provisions for credit losses or impact the bank's balance sheets.

But Clark said he believes 2012 is "going to be a pretty tough year" due to some of those macroeconomic concerns.

Nixon said he is seeing a slowdown in consumer borrowing, but that he expects growth in commercial loans to pick up some of the slack.

However, given that the ratio household net debt to income levels sits at a historic 150% — meaning mortgage and other debts are 1.5 times a Canadian household's average income — it would be risky if debt levels rise further.

All three CEOs assured the business audience that they have little exposure to lending in the overbuilt condo market.

However, at least one banking analyst foresees some trouble ahead for Canadian banks.

"Canadian consumers have become more leveraged over the past several years ... leaving themselves and therefore banks more susceptible to housing price corrections, interest rate shocks and other negative macroeconomic developments," Moody's senior analyst David Beattie said Tuesday.

"Should economic conditions deteriorate, consumer credit exposure will become a credit negative for the more aggressively positioned banks."