Canadians go into debt to chase soaring house prices
The Bank of Canada is sounding the alarm on mortgage debt.
In an interview with the Financial postGovernor Tiff Macklen said he feared Canadians would strain their finances to buy homes. Citing higher loan-to-value ratios, he said household debt was on the rise.
He is not alone in this feeling. StatCan recently released a report showing that mortgage debt is on the rise. The report showed that mortgage demand reached $ 34.9 billion in the fourth quarter, the highest on record.
At this point, it is clear that Canadians are struggling to buy homes. The question is whether that will lead to a correction or whether Canadians will simply have to take on more debt in the future. I’ll start by looking at the amounts of mortgage debt that Canadians add up and analyze some of the possible consequences.
Canadians are racking up mortgage debt
The recent StatCan report highlighted a number of measures regarding real estate and debt in Canada:
$ 34.9 billion in fourth quarter mortgage demand
A 3.3% increase in house prices
A national debt service ratio of 13.58% (compared to 13.18%)
Household debt with an income of 175% (against 170%).
Overall, these statistics suggest that Canadians are accumulating more and more mortgage debt. Not only in absolute terms, but in relation to income. Rising debt is not a concern per se, but increasing the debt-to-income ratio is. A person could theoretically repay any amount of their debt if their income was high enough. The problem arises when debt increases relative to income. This results in increasingly higher interest charges as a percentage of income, assuming interest rates remain unchanged. Granted, interest rates are currently low, which may have something to do with Canadians being prepared to take on debt. But mortgages are typically revalued every five or ten years, so Canadians’ mortgage debt could cause problems down the road.
Are REITs Better?
If you are looking to buy a house to live in, you currently have no choice but to take on high mortgage debt on your chin. Home prices are rising across the country, even in historically cheap markets. It’s unfortunate, but it’s a fact of life right now.
However, if you are considering real estate purely as an investment, you may have options.
REITs like REIT Killam Properties (TSX: KPM.UN) trade in markets like stocks. They can be bought in small units and you can build up a position by buying multiple of them. Killam, for example, is currently trading at $ 18.55. If you have $ 1,855 to invest, you can buy 100 shares. If you have $ 18,550 to invest, you can buy 1,000. That in itself does not make great investments for REITs. Like any other action, their price can drop.
But REITs like Killam have their advantages. For one thing, they often have high dividend yields. Killam is currently returning 3.67%, which is above the average for Canadian stocks. On the other hand, they should benefit from the rise in real estate values and rents. Killam invests in residential buildings, which rise in value alongside homes. Currently, the rent is a bit low compared to the price, due to the unemployment induced by the pandemic. But that should eventually change. In many ways, a residential REIT is a lot like buying an investment property without the high admission price. If you wanted a home as an investment and nothing else, a REIT like KPM would be a good alternative to consider.
The Bank of Canada article: Canadians Take on Debt to Chase Soaring Home Prices first appeared on The Motley Fool Canada.
Foolish contributor André button has no position in any of the stocks mentioned.
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