It’s shocking really, the height to - and the pace by - which the Toronto real estate market is soaring. In fact, the past year has registered the swiftest increase in prices since I began my own foray into real estate in the mid to late 1980s. Just last month, prices roared up 33 per cent year-over-year.
What’s driving these prices up? We've blogged about it time and time again; it’s a combination of multiple factors, including low interest rates, a surge of buyers keen to secure property, a diminishing number of prospective sellers who find climbing the property ladder cost-prohibitive (here's my recent post offering more insights called Dear Toronto Real Estate: Where Are The Property Listings?), and - the latest concern - an increase in speculators competing with buyers who want to buy and occupy a personal residence.
And, yes while the fundamental engine of what pushes prices up is the relationship between supply and demand, the force in Toronto which is placing a heavy hand on the dynamic of the market is now 'real estate speculation'. Yup, there are many who feel that speculative real estate may in fact be the pin prick that will finally burst this real estate bubble; this hot button issue is getting loads of attention from the media and from policy makers at the national and provincial levels right now.
So, what is 'real estate speculation' exactly, and why is it such a fierce problem in a fiery market? Let’s take a look.
What is Real Estate Speculation?
A speculative real estate Buyer purchases a property to resell quickly - rather than as a long term hold - banking on the fact that they’ll be able to benefit from the swift increase in property prices.
The real estate speculator hinges their activity on timing the market. The problem is when you time the market, and when you have enough people timing the market at the same time, you create market forces that actually configure supply and demand. The greater problem is that this configuration creates artificial value (which is why prices are skyrocketing) while simultaneously eroding affordability for the wider home buyer pool, intending to buy for their own residence or for a longer-term investment property.
As the weeks go by in this hot market, more and more market observers' believe this is exactly what is transpiring in Toronto. A recent study showed that three in ten properties are being snatched up by speculators. First, I have to say I'm not fully on board with the notion that all 'cash rich' buyers who are securing properties that currently generate modest returns are intentionally speculating for a quick flip. It's feasible that - with rents skyrocketing - these Buyers recognize the potential rent gains that will occur when an existing tenant moves out and the suite is re-rented at market rates. However, I'm also not dismissing that speculation is occurring in our local market. In fact, I'm more concerned about speculation in the condominium market, where Buyers purchase one or multiple units from the developer pre-construction with the aim of flipping them as an Assignment Sale prior to condo registration, or within a year of two after completion when the unit is tenanted. If you've bought a condo pre-construction - or you're considering it - you'll want to read my post in my Dear Urbaneer series called On Buying A Toronto Condominium Pre-Construction to understand some of the risks with that marketplace.
I Want To Buy An Investment Property. Am I Speculating?
The distinction between property investment and speculative investment is clear. It’s about timeline, really and the plans you have for your property. A property investor (i.e. a landlord) is someone who is purchasing a property intending to use it for rental income. Of course, part of the investment plan is to have the asset value grow over time, so that the investor would eventually sell and realize a profit on the asset value. The property investor serves a vital role in the economy, both in the real estate market buyer pool and by providing shelter to those who can’t afford to buy, or who would prefer to rent.
So no - if you are purchasing a property intending to hold for the longer term, your investment is not speculative. Here is a great article on the difference: “Are You A Property Investor Or Speculator? A Quick Quiz To Find Out”
The Role of Policy
As speculative activity gathers more strength, there are numerous calls from analysts, politicians and pundits for policy to discourage real estate speculation.
A new report from TD Bank shows that they upgrade their Toronto growth forecast for the year to the 20-25 per cent range. The report clearly points the finger at real estate speculation and does not mince words about the lingering danger in the market overall and the urgent need to act, since Toronto has been moving incongruously to economic fundamentals for some time: “Having a debate on whether there’s a housing bubble is a distraction, since this tends to be confirmed only retrospectively. What we can say is that when comparing this housing cycle to previous ones that lack a happy ending, Toronto appears to be moving in that direction.”
Ontario Finance Minister Charles Sousa voiced his concerns to Finance Minister Bill Morneau in an open letter prior to the release of the Federal Budget, where he suggested a hefty capital gains tax be levied for homes that are bought and sold in quick succession that are not principal residences. Morneau didn’t implement this in the budget, but instead directed more funding towards Stats Can to do more research into the housing market.
With the Ontario Budget set to be released on April 27th, the hint by Sousa is that he'll take action against speculators to help ease the market and boost affordability.
What can Sousa do? Many are suggesting that a speculative tax provincially (similar to the one that Sousa suggested Federally) would be effective, perhaps with a sliding scale for up to a four-year period.
There is also the option of introducing a foreign buyer tax, similar to the one recently implemented in Vancouver which, while it initially cooled the market, it did not dramatically adjust housing values in the lower price points as was hoped, though prices in Greater Vancouver have declined 9.3 per cent from a year ago to $991,690. And it appears the tax further fanned the flames of the Toronto market, as foreign buyers turned their attention eastward this past year.
In Australia, where there have been similar issues with hot property markets, they introduced a policy where foreigners are not allowed into the resale market unless they are owner occupied. The argument is that this encourages supporting the new build market, creating more supply (and much needed rental housing stock) and granting wider passage into the resale market for home buyers. Personally, I like this idea.
Which leads us to another suggestion: more needs to be done from a policy standpoint to support new building, which would increase the supply side of the equation. Personally, I'd very much like to see the process streamlined to address The Pitfalls Of Permit Fees And Toronto Real Estate and a fast-tracking for secondary income suites, laneway housing and greater densification along Main Streets.
As for the provincial government, this article from the Globe and Mail How Can Ontario Tame Toronto’s ‘Dizzying’ Housing Market? summarizes the options of a Speculation Tax, a Foreign Buyer's Tax, ban foreigners from buying resale homes, a progressive property (or vacancy) tax for local or foreign owners or supply policu changes.
The Role of Interest Rates
Just this week, the Bank of Canada held interest rates steady, but not without commenting on the “unsustainable” price levels in Toronto and the role of speculation. It has been suggested that the BOC should raise interest rates as means to cooling Toronto’s market and reducing speculative activity, as an increase in rates would erode likely profits on real estate flipping, but Poloz patently disagrees, suggesting that there is a more diverse economic solution that involves policy and taxation.
It is true that low interest rates have played a role in speculative activity (after all, speculators are able to borrow more money to pay higher prices, like everyone else). Click here to read “Inexpensive Credit For Speculators Is Fueling Irrational Housing Price Increases” on how cracking down on speculators at the source of their funding, with stricter rules and higher rates might be effective.
When you think about it, even if interest rates were to rise slightly, speculators are banking on prices rising in the double digits quickly, so a slight hike would impact a profit. However, a rate hike alone is not the answer. If it did occur, in the short term it would fuel an additional push into the market by hopeful home buyers trying to secure a property and are already maxing out their mortgage ability.
Click here to read this Globe and Mail story on Poloz’s comments: “BoC’s Poloz Issues Warning About Speculation In Toronto Housing Market”.
If only! Imagine if cooling the market were as easy as Iceman makes it look:
Our Clients Aren't Speculators, But We Do Serve Investors
I've never had clients who have specifically instructed my team and I to find properties for a quick speculative flip, but we have served local Investors over the years who are securing property for their own - or their childrens' - financial future. Here's three recent examples.
These investors - who live in the suburbs - bought this Dovercourt Village property so their daughter will have accommodations when she goes to university.
This investor bought this Playter Estates legal duplex until the time is right to renovate so he has a dwelling in a great school district for his future children to go to school.
This investor purchased this 3-unit legal duplex in Dancforth Village for its solid 5% cap rate.
If you're considering adding real estate to your investment porfolio, here's some past blogs to help guide you:
Are you a weary buyer desperately trying to find a home with limited supply? Are you trying to figure out how to benefit from the long term growth of the market as an investor? Given that my career started in the last real estate crash, where I helped clients navigate a major market correction, I’m experienced operating in both the major highs and lows of a market cycle, which could serve you well in a transitioning market. Celebrating Twenty-Five Years As A Top-Producing Toronto Realtor, my team and I are here to help.