Our Response To Toronto Moving To Second Place In The UBS Real Estate Housing Bubble Index 2021!
Compared to last year, we’ve now moved up one spot this year in the UBS Real Estate Housing Bubble Index 2021, which means Toronto is currently sitting in the number 2 spot. Now, this report does give good info about the global real estate situation, and it allows us to see a handful of common themes across the major urban centres around the world.
After reading their analysis for Toronto, we find that the conclusion isn’t completely accurate for Toronto. So, tune in as we summarize the report, share with you their methodology and data, then give our insights based on this report.
Five Global Real Estate Themes From UBS
Before I dive in, I do want to say what like about the UBS report, and that is they present a lot of their data along with their analysis, which means we have the ability to do our own analysis and form our own conclusions. They’ve also done most of the hard work consolidating data around the world, which is increasingly important for us in Toronto because we’re becoming more of a global city driven by immigration, so learning how we stack up compared to the rest of the world gives us better idea of where we might head moving forward. Now based on this report, there are 5 common real estate themes across urban centres around the world.
The first theme is strong price growth. Toronto real estate went up in price, and so did 22 out of 25 cities that were examined. The interesting thing here is that cities with higher appreciation this year usually went higher beyond their 5 year average, but Toronto’s appreciation is still very much in line with our 5 year average growth which means nothing that different came about this year for Toronto. We’re also not actually at the top of the list in terms of price growth either. Now this report doesn’t say whether they’re looking at 416 or 416 plus 905, but I’ll make an educated guess that they’re looking specifically at core Toronto since the GTA suburbs have seen a more exceptional 40%+ growth since COVID.
The second theme happening across real estate globally is that mortgages have boomed, caused from a combination of real estate prices shooting up and more people are taking advantage of low interest rates to buy more real estate. So yes this is not limited to Toronto, Canada, or even just within North America.
The third theme is that for the first time since the 90s, the suburbs have gone up more than urban centres. We’ve definitely felt that here in Toronto, as work from home meant less people needed to live in the city, and more renters became home owners moving to the suburbs, which bumped up demand in the suburbs astronomically.
The fourth real estate theme is, for more or less the same reason, renters and rents have declined in all major urban centres. In Toronto specifically, rents have gone down by 15-20%, and luckily, things are picking up again as COVID recovery is underway.
Finally, UBS sees real estate getting less affordable globally. I believe this is the case for Toronto, but if you look at a shorter timeframe, Toronto’s change in affordability is actually not as drastic as other cities around the world.
How UBS Calculates Its Housing Bubble Index
The UBS index is actually calculated based on a secret weighted average of 5 subindices:
- Price to income ratio
- Price to rent ratio
- Change in Mortgage to GDP
- City to country price change
- Change in construction to GDP
Some of these subindices contribute a bigger part to our high rank so this order that I just presented is actually strategically listed based on highest to lowest impact for Toronto.
When you compare our price-income ratio with other cities, you’ll see that we’re sitting a lot higher. Of course this is concerning, but when you look closer at the historical chart, you’ll also see that our price to income ratio has actually plateaued since 2017. Note this is different story when you look at other top ranking cities like Frankfurt, Zurich or even Vancouver, where their price to income ratio has been sharply rising in the past few years.
Then, I noticed that the subindex values actually gets stacked against past 35 year long-term performance and gets normalized. Because Toronto has seen much higher appreciation in the recent 10 years compared to the much lower price growth in the 90’s and the early 2000’s, this price to income ratio got shot through the roof in recent years.
If you narrowed the timeframe from 35 years to 20 years, you’ll probably see our price to income ratio drop a lot. You can also look at it in another way by analyzing the price to income ratio for other cities. For example, Moscow has seen major price growth in 2021, and yet, their price to income ratio this year is still below zero mainly because their numbers have also been normalised over the past 35 years, and so 2021’s price growth still doesn’t get interpreted as high compared to higher values way in the past.
Now my issue with this normalization is that comparing a city’s situation with what happened 35 years ago doesn’t always work, especially if the city demographics have changed drastically over that period like what’s happened in Toronto. Right now in Toronto, demand is driven in a big way by immigrants who aren’t looking at what happened in Toronto 35 years ago, but rather how Toronto is like now compared to other global cities right now, before deciding to move here. And when you stack Toronto’s price to income ratio with the rest of the world, you’ll see that Toronto is sitting pretty low on the global ranks, below cities like Hong Kong, London, New York, Vancouver, and San Francisco.
The price to rent ratio is also super high for Toronto. This year, it isn’t because prices have climbed radically but rather because rents have dropped in all major urban centres.
The reality is that Toronto’s price to rent ratio has jumped quite a lot compared to 10 years ago because rent growth has been lagging price growth. So in a way, you can say that we’re in a much more renter-friendly environment, partly because there is growing buyer demand for real estate and partly due to stricter and slower government regulated rent increases put in place in Ontario.
But in terms of this being a bubble indicator, I’d say we have to be cautious, because similar to price to income, this ratio has also been normalized with other figures from 35 years ago, and we’re in a pretty different place now. Note that in Toronto, our price to rent ratio is still lower than Vancouver and below the mid point mark on the global scale.
Change In Mortgage/GDP
This figure never stood out in the past, but it definitely went up in 2021 for Toronto, and it is probably the main reason why we also went up in the global UBS index this year.
I mentioned that UBS said that higher mortgages could be due to higher than normal price growth or a higher volume of mortgages, and in Toronto, it’s more the latter, considering Toronto’s appreciation didn’t shoot up as drastically within the past year. Note this demand comes from both end users and investors – on the end-user side, we have more renters buying homes because of low rates and on the investment side, there’s more new investors and returning investors refinancing to buy more investment properties because of the same favourable financing environment.
And here lies my second issue with the UBS index. A high score doesn’t necessarily indicate a bubble and can throw things off the other way. I think it would be a bigger red flag if this number spiked suddenly because prices have gone up, but if investors are allocating more of their portfolio to real estate, we might see a more stable market because these buyers are making more calculated purchases. On top of this, our government also has to be more careful about the housing industry now because so many more people are dependent on real estate, which might actually prevent a bubble and crash scenario.
City/Country Price Ratio
Guess what? This one dropped! What this means is that it’s actually becoming more affordable to live in Toronto than before compared to the rest of Canada. In other words, because more people have moved to the suburbs, the suburbs might now be overpriced, so buying real estate in Toronto is actually a better deal compared to before. This is very important point if you’re a real estate investor trying to figure out which market to invest in.
Change In Construction/GDP
This ratio, being last on my list, means that there are no red flags from UBS for Toronto but I feel like this is actually something important for us to continue monitor, especially since this ratio also dropped in the past year.
We all know the long term demand trend for Toronto points up because of immigration. At the same time, we have been experiencing a housing supply deficit, so that means the construction to GDP ratio needs to go up to help housing supply catch up and it should also be higher because we’ve seen a huge spike in raw material costs this year. The fact that this ratio is dropping is a concern. Perhaps it’s temporary and COVID-related. At the end of the day, if construction doesn’t continue climbing, we might get into a bigger housing deficit which means prices might shoot up more quickly.
Now that I talked about our supply and demand dynamics, you might also see another issue with this index. Even though it takes into account increases in housing supply, it doesn’t accurately look at demand or population growth. If supply grows, but demand or population is also growing, then this shouldn’t be as big of an issue and this is something else to keep in mind when looking at the UBS index.
To tie things all together, I feel that this UBS report gives a decent high level picture of what’s going on globally for real estate, and it does provide give accurate data in each market. Having said that, the subindices used to arrive at the global rankings might not make sense for all cities like Toronto.
Because we’re still in a period of high growth for Toronto with immigration being a key driver, instead of comparing our price growth with what happened 35 years ago in Toronto, it’s probably more relevant to compare Toronto’s current situation with other global cities’ current situation. When you do this, we become a lot more average in the global ranks.
Given that core Toronto’s appreciation hasn’t shot up drastically this year plus upside potential with rent recovery, I don’t feel that core Toronto is in a high risk situation compared to other cities in this report, such as Vancouver, who’s prices have really jumped up over the past year.
And besides supply and demand trends, we should also look at debt servicing, especially since we’re in a rising rate scenario moving forward. UBS has the right idea when they’re looking at the change in mortgage to GDP value, but looking at holding power might be a better metric, which showing a different outlook for the GTA, which is at a higher risk level now compared to the lower real estate risk situation in core Toronto with more upside potential. I did a detailed analysis of this in another video, so you should definitely check that out if you want to learn more about this.
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