What's The Best Real Estate Price Leading Indicator?
When you see prices dropping in the news, the reality is that the market has probably already shifted. This means that if you rely solely on price to determine the direction of the real estate market, you’re probably getting the news at least a month too late. So instead of just looking at price, in this video, I’ll go through a few indicators for Toronto real estate: interest rates, days on market, and my favourite, sales to new listings ratio.
We talked about how price is a lagging indicator, so let’s now talk about our real estate leading indicators. The first is interest rates, which can be a good indicator for end-user markets. In general, end user real estate markets typically moves inversely with interest rates.
In our current rising interest rate situation, the markets at the highest risk would be the GTA because they have the most end-user homes in the mix. Toronto has a better balance of end-user homes and investment properties, so we might find more diverging trends. Interest rate hikes in Toronto will most likely affect higher-end detached homes, while condos and investment freeholds will be less affected.
Days On Market
Another indicator for real estate is the days on the market. In a hotter market, we tend to see more bidding wars and bully offers, so naturally, properties don’t sit on the market for too long. My issue with the days on the market indicator is that it can be manually manipulated. In extremely competitive environments, listing agents like to set offer dates and not accept preemptive offers, so the days on the market number usually bottoms out at around a week.
On the other hand, when a property sits too long in a buyer’s market, the listing agent can relist the property and effectively reset the days on market. As you can see, even though days of the market can be a supporting leading indicator, I’d say that it has its flaws.
Sales To New Listings Ratio
So, this brings me to my favourite leading indicator, the sales to new listing ratio. The sales to new listings ratio is a pretty straight-forward calculation: you take the number of sales during a given month and divide it by the number of new listings during that same month.
When you compare the two, you’d get a good idea of the supply and demand momentum in any given month. And when you compare this ratio between months, it’ll help you understand whether a market is getting hotter, indicated by a higher number, or cooler, indicated by a lower number.
When you look online, you’ll probably see that typically, when the sales to new listings ratio is above 50%, the real estate market is considered a seller’s market, and below 50%, it is a buyer’s market. In my opinion, I’d probably tweak that a bit more and say that if the sales to new listings ratio is above its average levels, then you can expect faster price growth coming soon, and when the sales to new listings ratio is below its average levels, you can expect prices to drop soon.
If we look into history a bit more, you’ll see that this is true, and Toronto real estate prices do follow the ratio, typically lagging behind the sales to new listings ratio by a few months. Let’s see it in action by looking at the 416 condo history. On this chart, the red line is the sales to new listings ratio, and the blue bars are the annual price change for condos. As you can see, the blue consistently follows the red and is slower by a few months.
When we take a closer look at 2020, you’ll see that the red line, the sales to new listings ratio, started to nosedive in March of 2020 and stayed in buyer market territory for the rest of the year. Shortly after the ratio nosedived, the drop in condo prices followed. The ratio dip in April matched the price dip two months later in June. The small sales to new listings ratio retracement from May to July matches the price retracement later on from July to September.
Then, the condo market started to show signs of recovery in January 2021, and so a few months later, condo prices started to recover starting in April. I’d say that right now, the sales to new listings ratio still indicates a strong Toronto condo market, with the sales to new listings ratio sitting above average levels, and I don’t see any signs that the sales to new listings ratio is changing directions – which is good if you’re thinking of investing in the Toronto condo market.
Let’s go to Toronto semis next. At first glance, you might quickly notice that Toronto semis are a much hotter market than Toronto condos in general, with a higher average sales-to-new listings ratio. This means buying conditions are tighter overall in semis so, even when the market cools, 416 semis sees much stronger support, fewer overall price fluctuations, and a lower chance of big price drops. Right now, the 416 semi market is pretty balanced, still sitting at its average sales-to-new listings ratio levels, and there’s no obvious sign that market sentiments are changing.
Switching over to 416 detached homes, the sales to new listings ratio is still hovering at average levels, but there are bigger swings and some plateauing. I don’t see any major red flags yet, but it’s something to keep a closer eye on.
In general, the 416 market looks so far so good, but things are pretty different in the 905. In the 905 detached market, the sales to new listings ratio has dropped to its average levels, but it’s actually never been at these levels since June of 2020 so that’s a first warning. If we continue to see a decline in the sales to new listings ratio, then 905 detached prices should soon follow downwards in the coming months.
The most obvious sign of weakness is actually in the 905 semi market. Its average sales to new listings ratio is 69%, but right now, 905 semis have transitioned into a visible buyer’s market at 42%. This is a tell-tale sign that markets have obviously shifted, and prices are coming down very soon.
How We Can Help
With inflation staying high, you probably don’t want to hold too much cash and want to find a secure investment to hedge against inflation. Yes, real estate can be a good inflation hedge, but you have to understand that real estate is not one consistent class, and they do not all move in the same direction.
With more volatility coming in the real estate market, you need to choose your investments wisely. We’re seeing central banks are trying to curb inflation and recently, they’ve appeared more hawkish with interest rate hikes. If this pans out and we see faster than expected rate hikes, we’ll see end-user markets hurting the most.
On top of the sales to new listings ratio pointing to a weaker 905 market, we’re also see lagging indicators in price drops already happening, with prices falling month over month in places like Brampton, Oakville, Stouffville, and Simcoe County. The key takeaway is that if you’re looking to enter the market, I encourage you to take the time to learn more about where the individual markets are headed.
If you’re confused still and want an expert to help you out, then let’s chat! We can talk about real estate market trends, but more specifically, we will look at your requirements and preferences to match you up with the best opportunity that fits your investment goals. After we help you buy it, our team also provides renovation guidance, leasing and property management if you need it. Just connect with us if you want to learn more about our services!
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