Are We In a Bubble? My Real Estate Strategy

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There’s a lot of uncertainty about the current state of the real estate market across much of North America, but particularly in Ottawa and surrounding areas. Home prices have risen so aggressively, so quickly and that has everyone scratching their heads trying to figure out if this rise is sustainable, if it will continue, or if it’s all going to come crashing down.

*A warning. I am not a real estate professional. These are my observations and my opinions. I encourage you to challenge these thoughts and do your own research.

A Look at Some Stats:

The two graphs below show the growth of Ottawa home prices from 1958 until January of 2022. As you can see, in the last 10 years house prices have nearly doubled (~90% increase). In the 10 years before that (2002–2012) house prices nearly doubled (~80% increase), and the 10 years before that (1992–2002) about a 40% increase. From 1982–1992 an increase of ~130%. From 1972–1982 about a 100% increase.

Chart Provided by The Tulip Team (Remax)
Chart provided by CREA

A couple of points I’d like to note about these stats and the charts above. In the Ottawa region, over 10-year periods it has not been uncommon to see house price increases of ~100% — which, by the way, is about the expected return on an investment in the S&P 500. It is also noteworthy that in the Ottawa region there have never been significant house price collapses over any 10 year period, including during the 2008 financial crisis, where Ottawa’s housing market didn’t even flinch.

Some Contributing Factors to the Recent Rise:

The pricing of most goods is affected by the laws of supply and demand. If more people want to buy the thing then are available, the prices tend to increase. This is one factor affecting the Ottawa housing market. There are a ton of people looking to buy houses but there aren’t all that many houses for sale.

Why is there less supply than demand? A couple of reasons, probably.
1. Remote work allowing people to live further from the office, or away from it altogether.
2. Skyrocketing prices in larger urban centers (Toronto) mean that someone who owned property there could sell, buy cheaper in Ottawa and pocket the excess cash.
3. Low interest rates. The government trying to do anything they can to lessen the economic impact of COVID lead to super low borrowing rates, which lead to mortgage rates between 1%-2% for a time. That meant people could buy more house for less money.
4. COVID itself may have caused people to leave the hustle and bustle of large cities for the quiet suburbs of Ottawa. Maybe.

Will the Market Crash?

In short — I don’t know. Nobody really knows, but there are lots of opinions out there. I think it would be foolish to say definitively that it won’t crash, and anybody who tells you definitively is either lying to you or they are delusional. That being said, I think it’s important to consider all possibilities and prepare/plan for either scenario.

I can see a scenario where interest rates start to rise (this is starting already), many new home buyers who bought at the top of the market start to be in over their heads financially, and many houses have to go up for sale because people can’t afford them anymore. The swell of new houses up for sale flips the supply/demand issue on its head and then houses begin to drop dramatically in value. This could trigger a panic in some homeowners and real estate investors, and could cause many to become upside down on their mortgage (meaning the mortgage is bigger than the house is worth). Essentially if this scenario develops, the crisis would perpetuate the crisis. Basic market psychology.

That being said, I can also see a scenario where nothing happens. A slight stagnation in home prices for a few years, but within the decade the prices increase again, albeit more slowly for a bit. This scenario is evidenced by the historical housing market. We’ve never had a massive crash in the Ottawa region.

The final scenario is maybe the Ottawa real estate market is somewhat unique and attractive, the supply issues persist, population continues to swell and this race upwards continues an average of ~10% per year (averaged out over a 10 year span). I suppose that could happen.

My Play:

People used to say it’s rude to talk about money. Maybe they still do, but that’s bullshit. We should all talk about money more often. Comparing notes, teaching and learning. So here’s my situation and how I’m playing the current environment.

I bought a condo in 2016 in Orleans for about $220,000. I had put a small down payment in the property, maybe around $20,000 or so, and I lived there for almost 5 years. In that time I met the girl of my dreams, and eventually, we decided to buy a new house together, something that could be “our” home. If you’re mentally keeping track of the timeline here, you may have noticed that this would put me in a situation where I’d be looking to buy a new house in the middle of an incredibly hot market. When we first started kicking around the idea, we budgeted a bit and thought we would be comfortable with buying a $500,000 house. This house had to meet certain specific requirements, but we weren’t picky about living in a townhouse or a detached house as long as it met those requirements. We quickly found out that $500,000 wouldn’t be enough in this market that had accelerated so quickly. We then revised our budget and our numbers, and realized that the condo I was going to sell to help fund this new purchase was worth far more than I had expected, so we increased our budget for a new house up to $630,000 and not a penny more (and obviously the less we could spend the better). We came to this number by running mortgage scenarios factoring in a larger down payment and lower interest rate.

We bought the house for $627,000 and managed to put a $190,000 down payment on it which brought out monthly mortgage payments to a reasonable amount for us. We locked in a 5 year fixed mortgage at 1.69%, which is ludicrously low.

When buying the house, I ran all kinds of financial scenarios to make sure we were well situated to pay for it in any given scenario. As I see it, here are the possible scenarios and how I will play them:

  1. Interest rates rise, 5 years from now my mortgage will be renewed at a higher rate — I am keeping an eye on rising interest rates. I have a little over 4 years left on my term, meaning I’m locked in at 1.69% until then. For now, any excess cash I have I am investing in the stock market. There is no point paying down a 1.69% debt when I can use that same money to make ~9% a year. As we get closer to renewal, if rates continue to trend higher I will begin to shift my excess cash flow to paying down the mortgage faster so that by renewal time if the rates are high (4%-5%) I will refinance a smaller mortgage at those rates, meaning a smaller or equal payment to what I’m paying now. As long as rates remain elevated, I will likely continue to attack the mortgage. I suppose it’s worth considering a “doomsday” scenario like my parent’s generation had where mortgage rates were 10%-15%, sometimes more. I think this is an unlikely scenario, but if that materialized I would probably re-allocate a larger portion of my stock portfolio to dividend paying stocks, and use some of those proceeds to help cover the mortgage until things settled down again. That, in combination with my aggressive paydown strategy should put me in a good position to weather the storm.
  2. If house prices collapse, that’s ok. I will keep paying my mortgage according to plan. We don’t intend on leaving the house any time soon, so if the house drops dramatically in value, it’s all good. We’ll keep paying like we always have, nothing changes other than that arbitrary number of what the house is worth. But when prices collapse, this could present an opportunity. This may be an opportunity to use cash savings or re-allocate some of my stock money to purchasing other CHEAP property to use as rentals. This may be residential, or maybe commercial. This would require re-evaluation to make sure its feasible based on how the market develops, but certainly could be an option.
  3. If rates don’t increase dramatically, and nothing much changes market wise, I’ll continue investing in the stock market. Status quo.

How I Would Play This if I Didn’t Have a House Already:

Its not a fun position to be in. Ballooning home prices make it harder to enter the housing market if you don’t have the equity already to make the down payment. But I’ll tell you what I wouldn’t do: sit around and complain about it. I’d park my money into a diversified stock portfolio. The way inflation is going, the reduction in buying power, the increase in house pricing, if you aren’t growing your savings you are in fact losing money. I would definitely be piling my savings aggressively into stocks, and I would try to be patient in entering the market. What I mean by that is don’t take on a 25 year commitment (the mortgage) if the math doesn’t add up. Wait until the math does add up. Keep saving, keep growing until you have enough money. If you are patient you’ll set yourself up for success and maybe in that time you’ll get lucky and the market will crash.

Look, nobody can see into the future. If half the people making predictions had any real idea of what the future holds, there would be a lot more rich people out there. A better strategy is to consider all angles, come up with plans for tackling the various scenarios, and reasonably prepare for the worst case scenario. This will put you in a rock solid position for preserving your wealth during the hard times, and growing it in the good times. I’ve been reading a lot of articles lately about how everything is going to collapse. It’s depressing. But you know what? This stuff doesn’t give me anxiety, because I’m ready. Let’s see what happens.