Why Toronto Area Real Estate Prices Will Keep Going Up

A recent report from Capital Economics, which has received wide coverage in the media, predicts that Canadian real estate prices need to fall by 20-25%. This conclusion is based on the assumption that real estate prices tend to be determined by affordability as measured by the ratio of house prices to income. The chart below shows the trend in the house prices to income ratio over the past 25 years; the gap between the current ratio and the long term trend line is evident.

25 Year Trend in Real Estate Selling Price to Income Ratio

However, an analyis by Jason Mercer, the Toronto Real Estate Board’s Senior Manager of Market Analysis, indicates why this conclusion is flawed. The real issue is not the ratio of house prices to income but rather overall affordability, which is measured the proportion of household income that is used to pay for mortgage principal and interest, property taxes and utilities. The widely-accepted benchmark for affordability is a 32% share of income used for these items. As the chart below shows, the present level of affordability is still below this benchmark, though it is projected to move close to 32% over the next two years.

Affordability of Real Estate in Toronto

 What this means is that the current real estate prices are justified by the present level of affordability, and that there is still room for prices to increase over the next couple of years, though likely at a slower pace than in recent years. Mr. Mercer has projected Toronto area prices over the next two years in the chart below – approximately 3% increase in both 2011 and 2012.

Toronto Area Real Estate Prices Forecast 2011 & 2012

  • Guest

    Ummm… interest rates are at all time lows right now.  They will only go in one direction going forward: up.  What do you think happens to mortgage costs when interest rates increase?

    • Dave Proulx

      The outlook for at least the next year or two is for interest rates to rise only slightly, not enough to offset income growth and therefore not enough to seriously hurt affordability. If interest do rise quickly, of course, prices will probably fall… but if that happens I’d guess we’ll have a lot more to worry about than falling house prices!

  • Stacysp

    well on the upside, it looks good to invest into realestate

  • Fgordon

    The past 5 years have posted tremendous price appreciation in Toronto. The government is trying to cool the Real Estate Market by changing C.M.H.C. and tightning regulations rather than increasing interest rates which will catch many people off guard, as this is a new strategy. What I believe we will be looking at is a correction in prices over the next year rather than a meltdown like the U.S. This will be healthy for the overall market. Prices don’t have to go up all the time. That is unhealthy for Real Estate and a correction is needed at this time.