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Why the Rental Market Continues to Break all Records with Shaun Hildebrand

The rental market for Toronto condos is breaking all kinds of records this year. Supply at an all time low. Sales-to-listings at an all time high. Rental prices increasing by 9% to an all time high. Days on the market at an all time low. What is driving this crazy and insatiable demand for renting Toronto condos and how long will it continue? Shaun Hildebrand of Urbanation discusses on this episode.


1:24 A lot of records were broken this quarter, weren’t they?
5:05 A lot of interesting things happening on the rental side.
5:25 CMHC vacancy rates, as you said you’re waiting to see those numbers come out.
6:06 Is there one statistics that you look at the most for the whole market?
9:45 How does that stack up to all the historical data?
14:30 Where do you see rental rates, in particular going?
18:20 How are these mortgage rules are gonna affect the market?
22:19 Upper end of the condo market.
24:51 People who can’t afford to buy a house anymore, now they’re buying condos?

Click Here for Interview Transcript

Announcer: Welcome to the True Condos Podcast with Andrew Le Fleur. The place to get the truth on the Toronto condo market and condo investing in Toronto.
Andrew: All right, it’s my pleasure to welcome back to the show again, returning guest and favorite guest of the show Shaun Hilderbrand. Shaun is the senior vice president of Urbanation. Shaun, welcome back.
Shaun: Thank you. Thanks for having me.
Andrew: Yeah, great to have you again on the show. Always good to hear your insights and always good to talk Urbanation stats. You guys do such an amazing job of tracking the condo market. So, as condo investors it’s very important to know, obviously, what is happening in the market. We want to talk about that today. You’re an awesome guy to talk to. Thank you for your time. Why don’t we jump in to the Q3 Rental Market Report, the rental stats that just came out. We’re gonna talk about Q3 rental and sales stats. Just looking through the Q3 rental report, the phrase that I keep seeing over and over again is all-time high or all-time low. A lot of records were broken this quarter, weren’t they?
Shaun: Yeah, actually it was pretty interesting with the rental market results. I think it was the first time since we’d been tracking the market since 2010 that we actually saw the number of units leased fall year over year. It wasn’t because demand slowed down. It was because the number of listings dropped quite noticeably. What this effect on the market has been is a tightening in market conditions to the point where rent growth surged 9 percent year over year. Across the GTA, we’re averaging over $2.70 a square foot. In the former city of Toronto, we’re now averaging well over $3 a square foot. On a monthly cost basis, now average condos in the city of Toronto are leasing for $2,000 a month.
The market is tightened quite significantly just in the past 6 months, I say, to the point where the average days on market has dropped by a full week. The average condo is being leased out in only 12 days. The ratio of leases to listings is surging through the roof. We haven’t yet received updated condo-apartment vacancy rate statistics from CMHC, but I have full confidence that they’re going to show a drop in vacancy from an already low level. Last year they were reported at about 1.8 percent or so. I think they’re probably gonna fall below 1 percent in 2016 based on the numbers that we’re tracking.
so this has happened actually as completions have slowed down. Even though there’s still a very high level of units under construction, temporarily, at least, new supply coming into the market has moderated. Most of the growth in condo rental supply comes directly from newly completed buildings. The fact that we’ve seen completions back off from what was about 20,000 units a year last year to about 15, 16,000 units this year has actually had the affect of creating under-supplies market conditions for rentals. A few years ago people were expecting that 20,000 units a year in terms of condo deliveries was actually too much for the market. It was a record level, and there was a lot of concern over that.
Now, what we’re seeing is that was actually a level that was appropriate for that market. It created balance market conditions for condo rentals. As we reached these levels in 2014, 2015, what we saw was rents actually beginning to flatten out. For a good period of a couple years, rents were really not moving much. Now that supply has tapered off a bit and demand, obviously, continues to remain extremely strong, it’s had the affect of actually lifting rent growth to its highest point in several years. Really tight market conditions, we expect that that’s going to remain the case even though scheduled deliveries will rise next year. Actually through 2019, we’re expecting at least 20,000 units a year in each of the next 3 years. I think that the demographic support is very, very structural. The recent mortgage rule changes, I think, are only gonna put more pressure on the rental market as first time buyers that have been buying condominium apartments in particular, some of them will be priced out of the marketplace because of these new changes and turn to the rental market.
A lot of interesting things happening on the rental side. As we’ve been seeing, probably the tightest market conditions since we’ve been tracking the market over the past 6 years.
Andrew: Yeah, very interesting. You through out a lot of great points and stats there. I want to dive into a little bit more on some of the things you touched on. One question I have is CMHC vacancy rates, as you said you’re waiting to see those numbers come out, that’s a number that people will often throw around, and we say how’s the Toronto real estate market? Is it hot? Is it whatever? Well, isn’t the vacancy rate 1 percent or less then 2 percent? It’s a number that we hear thrown around a lot. How much weight do you put into that number, knowing sort of how they calculate it? How valid is that sort of figure? Or, maybe another way of asking this is if you’re looking at the rental market yourself to get a sense of the hotness level, so to speak, how hot is the market, answering that question. Is there one statistic that you sort of look at the most as a good snapshot for the whole market if you just had to pick one? A lot of people, like I said, like to throw around this vacancy rate stat, but maybe is there a better stat that you turn to as a good tell-all for the market as a whole?
Shaun: The CMHC stats on vacancy rates are important statistics, because they’re surveying the entire stock of the condo rental market. The problem is that it’s only done once a year. Really, it’s just a snapshot of one particular [inaudible 00:06:44] during the entire year. I think it’s important that it’s done. I think that their methodology is sound. It’s probably the most complete way of getting at the complete the picture of demand and supply in the overall marketplace. The issue with the statistic is that, as I just mentioned, it’s only reported once a year. It doesn’t track what’s been happening throughout the year and take into considerations the moves that have been occurring over the past 12 months. I think that’s where our data really shines. We’re tracking the flow, the demand and supply flow, on a quarterly basis. The key metrics that I look at in our data are the ratio of leases to listings, the demand supply equation. I also look at the average days on market, as we were just talking about.
some other interesting things that we can gather out of the data that helps us support evidence of market conditions is the percentage of units that are being leased for over asking price, suggesting that some units are actually being leased in bidding wars. As more people are bidding on the unit, the lease rate actually grows higher then the asking rate. What we found from the data in the third quarter was that 25 percent of all units leased during the period were rented for higher rates then what was being asked of the units on the listing. This suggests that there are quite a few units that are being leased in multiple offer situations. The actual number of units that leased for above asking was double the level from a year ago.
We hear these sorts of reports on the ground as well. We take into consideration a few key metrics to help support evidence of market conditions: the lease to listings ratio, the days on market, and certainly the number of units that are being leased for above asking. In the end, probably the most telling indicator of what’s happening in the market is rent growth. I don’t think there’s any denying that the market has tightened in seeing that, in the third quarter, rents were up 9 percent year over year. Whereas, if you were looking at the market last year, we were seeing rates of growth somewhere between 2 and 3 percent.
Andrew: Yeah, it jumped. You mentioned the sales to … the leases to listings ratio 89 percent. In a given month the number of leases, 89 percent compared to the number of listings. The days on market only average 12 days on market. Can you put those 2 numbers in perspective for us? 89 percent sales to listing and 12 days on market. How does that stack up to all the historical data?
Shaun: Since about 2013, I would say the market is been tightening. It slowed down during that period of time, and the lease to listings ratio dropped to about 75 percent. Since 2013, it has steadily risen from 75 percent up to 89 percent. That is a significant jump. That is, I would say, at least 10 basis points higher then what the average is for a lease to listings ratio. At least 80 percent average, we’re close to 90 percent. There is quite a bit of a margin there, suggesting that demand is quite considerable outstripping supply. The average days on market fell by a full week from a year ago. As I just said, it was averaging 12 days. Last year, we were closer to 20 days. Then that level has been kind of consistent for the past 3 years. It is a very remarkable and pretty dramatic change in a fairly short period of time.
Andrew: Right. So, you’ve got a case where prices are going up and the units are going quicker. Units are going in bidding wars. More units are going in multiple offers. All signs are pointing to the market is red hot.
Shaun: It’s motivating investors to continue holding on to their units. We’ve been noticing huge inflows coming in. Even though completions have slowed down, the percentage of units within the buildings that are coming to completion that are being leased out continues to rise. More and more, the investors that have been buying pre-construction condos in previous years have been holding on to them as opposed to flipping them, I suppose, at resale. Obviously, the increases in rents help with their carrying costs, help to cover their ownership costs. The game that we’ve been seeing in the resale market are motivating them to continue to hold on to the property as opposed to sell it.
Andrew: If you’re closing on a property today that you bought 3 or 4 years ago, it’s sort of a perfect storm where the rental market is red hot, rental rates have increased significantly since you bought the condo, and mortgage rates have probably actually come down fairly significantly as well since 3 or 4 years ago, too. There’s strong incentive to rent out your unit and get a very strong cash flow on a lot of these units as opposed to looking to just flip it and sell it and make a small profit. It’s look attractive to hold on to it. I guess that’s –
Shaun: When we’re looking at some of the numbers for the units that are coming to completion, more of them, than in the past, are clearing positive cash flow based on the level of rent that we’re seeing in the marketplace right now. In previous years, there was some projects that we were calculating as cash flow negative, some that were positive, but averaging on a net basis pretty neutral positive cash flow. Now, we’re starting to see that move higher just based on the pure growth in the rental market, and the fact that new condo prices haven’t been rising by that much. A lot of the reason is because there hasn’t been a lot of new product coming into the marketplace, but certainly the uplift from the resale side is providing more potential for capital appreciation. On top of that, you have the rising rent levels which are helping with cash flow, making condos more attractive as an investment then they have over the past few years, I would say.
Andrew: Absolutely. 2016 feels like one of these years where anybody who bought a condo in the previous 3 or 4 years is looking like a genius in 2016, because, like you said, all these factors are lining up. The people who put their money into the market a few years ago are really seeing the rewards of it right now. I guess the question then is will this continue? Moving forward, you mentioned you’re expecting more supply coming into the market, more completions of new condos coming into the market for the next few years compared to this year, which was quite a bit lower then last year. Where do you see rental rates, in particular, going? Do you think, a year from now, will we be talking about rents are up another 10 percent, or do you think it’ll level off based on what you’re expecting to happen?
Shaun: I don’t expect that rent growth is going to continue at 10 percent or 9 percent. It’s abnormal for housing prices to rise by that amount, but it’s even more abnormal for rents to rise by that degree. It certainly isn’t a sustainable rate of growth. With the expected increase in completions and we definitely expect investors will continue to add their units to the rental market, supply is going to continue to grow, but I don’t expect that it’s necessarily going to be growing faster then demand. Again, a lot of that has to do with the most recent mortgage rule changes, pricing a lot of first time buyers out of the marketplace.
We crunched some numbers to sort of illustrate the magnitude of these changes. What we found was for the average price condominium apartments in the resale market right now, the qualifying rate to purchase, sorry, the qualifying income required to purchase the average-priced unit has effectively risen from $73,000 to $86,000, just after these mortgage rule changes came into effect. Basically, for the average buyer, they’re going to be required to have an income that is $13,000 higher then what it was in September. That’s a significant increase of about 17 percent. That builds off a 9 percent increase of required income over the past year just based on pure increases in prices.
That is going to take a chunk of demand out of the resale market, and that’s important to point out. The resale market for condos has been on fire as well. We’ve seen sales grow 20 percent year over year consistently for the past couple of years. That’s going to slow down no doubt. Resale activity is going to moderate because of these changes. Certainly one positive spin-off from the condo investment standpoints that while resale prices are probably gonna slow down, rent growth is going to remain stable, because there’s going to be a lot of that demand directed into the condo rental market and conditions are going to remain stable.
The increase in supply that we’re expecting next year, I think, is going to be at least somewhat offset by increases in demand because of these mortgage rule changes in addition to the surging levels of immigration that we’ve been seeing into the GTA, increased inflows from other provinces as well coming into Ontario and the GTA. Still very strong growth overall in the population between the ages of 25 and 34, which has high propensities to rent and actually represents the largest share of renters in the GTA market right now. The demographics, the economics, and the regulatory environments are all supporting higher demand for rentals in the next few years. Even though the increases in supply are expected, I don’t anticipate that it’s going to have a huge impact on market conditions. Rents will probably settle closer to their long-term average of about 3, 3 1/2 percent, year over year. I think that’s kind of what we can expect out of the market over the next few years at least.
Andrew: Interesting. New mortgage rules. One question that’s come up on the podcast recently is how these new mortgage rules are gonna affect the market; in particular, is there any way to quantify or measure how many people will be sort of taken out of the buying pool and put into the renting pool, if you know what I mean? Is there any way that we could measure or predict … Like you said we’re expecting a lot of people who were gonna buy. They can’t afford anymore under the new mortgage rules. They’re gonna be renting. Is there anyway to calculate exactly how many people that would be to therefor better estimate how it’s going to affect the rental market in say 2017 and 2018, assuming that rules stay with us?
Shaun: I think there are, and probably banks and other lenders are best positioned to make those sorts of calculations, because they have detailed income and loan to value information on a record level basis for condo apartment purchases. For us, looking at the market on a high level, what we’ve done is we took a look at previous mortgage insurance rule changes to see what sort of cost impact they had on the average buyer and what happened to sales activity after the changes were implemented. We went through previously, over the past 6 years or so, various rounds of tightening and mortgage insurance qualification, mostly on the maximum amortization side. In 2008, we saw the amortization fall from 40 years to 35 years. Then, again, in 2011, it went down to 30 years. Then, more recently, in 2013, the maximum amortization for insured mortgages was capped at 25 years.
What we found was that these mortgage insurance rule changes that reduced maximum amortizations effectively increase the cost to purchase and carry the average- priced resale condo unit by about 5 to 10 percent. That subsequently led to annual decline in sales totals of anywhere between 13 and 23 percent, depending on the time period. The more extreme decline happened in 2009, but we also know that there was a lot of other factors impacting the market in 2009. For the more recent rule changes, we’re looking at about a 13 to 18 percent decline in sales activity following those changes. What we think, based on the more recent rule changes which will require buyers to qualify at the posted rate which is a full 200 basis points above discounted rates, we find that this will raise carrying costs associated with qualifying to buy the average-priced unit by at least 15 percent, 15 to 20 percent, or close to $400 monthly.
That is, as I just mentioned, higher then the cost impact of the previous mortgage rule changes. On the surface, you would assume that this is probably going to have an even greater fall for resale activity. You also have to look at the composition of demand right now to kind of figure out what the overall impact will be on the marketplace. I would argue that the market in 2016 hasn’t necessarily been as driven by first time buyers as it has been in the past. The impact of the mortgage rule changes on overall sales activity may not be as great as otherwise suggested by looking at past changes and what the impact could be based purely on the increasing cost today. In fact, what we’ve been noticing is that the strongest area of the condo market has actually been above $500,000, the so-called upper end of the condo market.
Based on our statistics, over a fifth of all activity has actually been occurring over $500,000 this year. The largest sources of strength have been sort of in between the $600,000 to $1,000,000 price point, and this is within the condo apartment sectors. There’s been exceptional demand within the move-up buyer market for resale condos, suggesting that even though these rule changes are coming to effect, there is at least some opportunity based on the level of demand today to substitute down into lower price points. Whereas, perhaps in previous rule changes, the market was being very heavily driven by first time buyers at lower price points, and there really wasn’t any room to adjust so they were immediately taken out of the market and the impact was much greater. This time around, I think the market is standing on stronger legs. We definitely have lower supply levels today then we did during these previous mortgage rule changes. Even if demand does fall, it’s not gonna have that big of an impact on price.
We’ve seen resale prices over the past year grow by 12 percent year over year. What I expect is gonna happen after these mortgage rule changes come into effect, and it may not show up in the statistics until 2017, is that sales will probably cool off by about 10-15 percent, fairly in line with the changes that previously occurred in terms of mortgage rule insurance restrictions. Obviously, the cost increase is greater this time, and we expect that price growth is probably gonna moderate to around it’s historical average of about 5 percent. This is really only gonna have the impact of restoring market balance as opposed to, in previous mortgage rule changes, kind of tipping the market into a buyer’s market for a temporary period. The market is just to tight right now. It would need to cause a severe correction in demand in order for prices to actually experience an outright decline.
Andrew: Very interesting. How much of that activity in the $600,000 to $1,000,000 range, as you mentioned being the hottest segment of the condo market which is a complete change from what’s its been in the past, how much is that is just people who can’t afford to buy a house anymore, now they’re buying condos? I wonder, is it possible the condo market will actually not slow down, as you said, because while you’re losing a bunch of buyers on the bottom end who are becoming renters, you’re gaining a bunch of buyers on the top end who were gonna buy a house but now they’re gonna be buying condos?
Shaun: That’s a theme that we’ve been exploring over the past year. It’s the increase in move-up demand, those that are being priced out of the single family home market substituting into larger condominium apartments. The problem has been the lack of supply of this type of product, particularly in the resale market. What we’ve noticed is that larger units are selling very quickly. Pretty much all of the realtors that I’ve been speaking to say that they have a line-up of buyers looking for larger suites, but nobody has listings. The most popular buildings right now are selling larger suites. These larger suites are actually generating higher per square foot values then smaller units. This is a bit of a reversal from what we’ve seen in years past where the smallest units got the highest per square foot values. As supply becomes as restrictive as it has and demand becomes more diverse with more end-user buyers that are down-sizers or move-up buyers within the marketplace becoming more active, it actually begins to put a stronger price premium on space. The two-bedroom plus den units are trading for higher per foot values then the smaller one bedrooms and studios in a lot of cases today.
Andrew: That’s very interesting, and that’s a key point that, I think, investors really gotta look carefully at and understand that, historically as you mentioned, larger units were supposed to be sold at a lower price per square foot then smaller units. That just something that’s always been the case. Now, we’re seeing this strange phenomenon in the market where the higher units in buildings, those are the larger units in buildings, are actually trading at higher per square foot prices then the smaller stuff. The explanation seems to be that there’s just surging demand for this type of product. You would never see a bidding war 2, 3, 4 years ago on a $700,000 condo. Now, every single condo in that sort of price is seeing multiple offers. It’ll be fascinating to watch and see how that develops moving forward. Shaun, we’ve covered so much great stuff here. We’ve, unfortunately, run out of time. I wanted to get into the Q3 sales numbers as well, but I think we’ve given people so much great meat to chew on here just from talking about the rental market and the repercussions of that. We’ll leave it there for today, and we’ll save that for another time. Thank you very much, Shaun, for your time and insights once again on the show. If people want to learn more about Urbanation or get in touch with you, what’s the best way for people to do that?
Shaun: You can check out the website Lot of great information on there. Contact information is provided. You can follow us on Twitter as well @urbanation. Go to the home page to access our latest news releases and blog posts. All of that is posted as soon as it becomes available. If you want to be added to a mailing list, just let us know, and we can keep you posted on our latest statistics.
Andrew: Great. Well, thank you so much, Shaun. We’ll talk to you again soon.
Shaun: Thanks. Anytime.
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