Canada’s sub-prime mortgage industry is said to be growing and there are supposed to be $500 billion in high-risk mortgages in the Canadian housing market.
But some like Robert Shiller have argued that if Canada’s bubble were to burst, Canada’s experience would be very different from the U.S. because banks aren’t as burdened by sub-prime loans and because the mortgages are insured by the Canadian Mortgage Housing Corp. (CMHC).
A new report by Capital Economics however says Canada is “not immune to potential sub-prime problems”.
While they argue that there isn’t a sharp distinction between prime and sub-prime lending and that non-prime mortgages account for 20 per cent of total residential, unlike the 50 per cent touted by many, they do think there is too much optimism about Canada’s housing market:
“In Canada’s case, the evidence also points to errors of optimism. The run-up in household debt-to-GDP (adjusted for methodology differences) looks very similar to what occurred in the US.
This suggests that Canadian households might be equally vulnerable to a housing correction. The Bank of Canada recently commented that the revised Canadian debt figures ‘imply a more vulnerable household sector than previously thought’. We couldn’t agree more.”
Photo: Capital Economics
Moreover, they think the construction boom is going to end soon and the share decline in existing and new home sales suggest that a housing correction has already begun. They project house prices will correct 25 per cent and point out that “…pessimism is unfortunately what happens at the end of housing bubbles.”
Bottom line – “We see similar errors of investor optimism in Canada which is corroborated by evidence of excessive household credit growth and over-building. These housing excesses, especially condos, will eventually swarm the existing housing market, where falling sales and rising new listings have already begun to cast doubt over the rose-coloured consensus outlook.”