Why Ordinary Parents Are Investing in Current Market

When Will Rates Rise?

A recent CIBC survey revealed an interesting trend: despite noticeably higher prices, Canadians aren't just continuing to invest in real estate, the share of investors relative to primary-home buyers has actually risen over the course of the pandemic. Today, 25 percent of all property purchased in Ontario isn't being bought as a primary residence, and in many cases, the investors behind these purchases are people just like your neighbours and relatives, people with kids and grandkids of their own.

So why is this happening? Today, rent on an average condo or townhouse usually can't cover the costs, given how high prices are, how large the mortgage is, and all the other expenses involved. But the survey found that what's actually driving parents today isn't so much rental income or potential price appreciation, it's the desire to help their children and grandchildren avoid missing out on the chance to one day own a home of their own. Plenty of parents reason, quite sensibly, that by the time their kids finish school and enter the workforce, their income and options simply won't allow them to buy a condo or a house, and the dream of homeownership could end up staying a dream forever. If the kids haven't grown up yet, or don't have income of their own, many parents buy a property under their own name, renting it out in the meantime before eventually passing it on to their children or grandchildren. Parents often use the equity in their own home as the down payment for a second or third condo, townhouse, or small house. And if the kids are already old enough to take part in the purchase themselves, parents, or grandparents, help them with the down payment instead.

Soaring property prices in many parts of Canada mean parents are increasingly helping their children buy a home through financial gifts, and the size of those gifts keeps growing significantly too.

CIBC Deputy Chief Economist Benjamin Tal said nearly 30% of homebuyers last year received help from family members. As a reminder, that figure stood at 20% back in 2015, and it keeps climbing steadily. During the pandemic, home prices and sales both surged as mortgage rates fell and people working from home wanted more space. According to Tal, the share of buyers receiving help from their parents hasn't changed, but the size of that help has grown considerably. Back in 2015, the average gift came to just over $52,000. It's climbed steadily ever since, he noted in the report.

It's worth noting that while the actual number of Canadians receiving a gift hasn't changed, the average size of that financial help has risen significantly, reaching a record $82,000. And first-time buyers trying to break into the market weren't the only ones turning to the bank of mom and dad. Tal noted that up to 9% of buyers moving up to a more spacious home also received financial help from their parents. While the share of buyers in this category receiving parental help is shrinking, the size of those gifts has jumped to $128,000.

Prices in some parts of the country have climbed faster than in others, and in those regions, gift amounts turned out to be even larger. The average gift in Toronto over the first three quarters of this year came in above $130,000 for first-time buyers, and nearly $200,000 for those upgrading to a larger home. In Vancouver, the figures came to $180,000 and $340,000 respectively, Tal says.

By his calculations, roughly $10 billion was gifted last year, equal to 10% of all down payments made. He also noted that cash gifts and home prices are closely linked.

The average gift size tracks closely with home prices. In fact, over the past 5 years, the growth in the average gift has outpaced housing price inflation, rising 9.7% a year, 2% faster than price growth, Tal added. In his view, most of this gifted money appears to be coming from parents' own savings.

Buying a home, in most cases, means taking out a mortgage, and even seasoned borrowers who've gone through more than one home and loan always face the same question: which type of mortgage should you choose? There are two main options: fixed-rate and variable-rate. A fixed rate stays the same throughout the entire term of the contract (5 years is the most popular length), while a variable-rate contract is tied to the bank's prime rate, which moves directly with the Bank of Canada's key rate.

Because of this, we watch every central bank announcement closely and try to read where rates are headed over the coming quarters. That can sometimes be quite difficult, since global events (COVID-19, for instance) can affect the broader economic picture and completely reverse the direction of interest rates and the Bank of Canada's monetary policy. At its latest meeting on October 27, the Bank of Canada held its key rate steady at 0.25% and wound down its bond-buying stimulus program. That said, the Bank also moved up the likely timing of future rate hikes, amid concern that global supply chain problems are pushing inflation higher.

In the official statement, Governor Tiff Macklem said the Bank is ending further increases to its holdings of Government of Canada bonds, winding down the quantitative easing program that pumped hundreds of billions into the financial system since the start of the COVID-19 pandemic.

The Bank also signaled it could be ready to raise the cost of borrowing as early as next April, since supply chain problems are limiting how much the economy can grow without stoking inflation.

Macklem repeated his commitment not to raise the key interest rate until the economy has fully recovered, but the Bank's leadership now believes that could happen in the middle quarters of 2022, rather than in the second half, as previously expected.

This tone will reinforce market expectations that the central bank will move into its tightening cycle sooner, amid mounting price pressures. Investors expect the Bank of Canada to begin raising rates within the next six months, with four hikes expected in 2022. An accompanying report featuring the Bank's updated forecasts noted that upside risks to inflation have intensified, since price increases are exceeding the Bank's desired 1-3% range. The central bank revised its inflation forecasts and now expects 3.4% both this year and in 2022. We expect the Bank to raise rates three times next year. That would bring the overnight rate to 1% by the end of 2022, says TD economist Shri Thanabalasingam. Inflation is heating up, and it would be prudent to withdraw some of the monetary stimulus as the economy moves toward recovery.

According to Doug Porter of the Bank of Montreal, there will be even more hikes than that. "The key overnight rate stayed at 0.25% once again, but almost every other aspect of the release focused on growing concern about rising inflation," he says. Right now, we expect rate hikes on a quarterly basis all the way through the end of 2023. That would bring the rate back to pre-pandemic levels within two years.

Derek Holt of Scotiabank is sticking with his forecast of eight rate hikes by the end of 2023. In his view, the cost of borrowing needs to be adjusted to bring inflation back to normal. In my view, we'll definitely see several hikes in 2022, said Holt, head of Scotiabank's economics division. We'd forecast hikes starting in the second half of next year, beginning in July, and we now think that could happen sooner. Rates could quite plausibly start rising as early as the New Year, and if not in January, then at least by next spring.

That said, one well-known economist believes rate hikes won't actually help fight the sharp rise in consumer prices.

Frances Donald is less convinced that raising interest rates is the cure for what's ailing the Canadian economy. She believes Macklem may even need to ease off slightly, given the fresh, notably weak third-quarter economic data. The Bank of Canada says it's more concerned about inflation, and that's one of the reasons behind the push for earlier rate hikes, says Donald, senior economist at Manulife Investment Management.

The problem, in her view, is that the inflation affecting Canadians is the result of global issues, port closures in China, tariffs, drought in Brazil. The kind of inflation central banks can actually monitor and control is the more persistent kind, driven by higher wages and housing costs. That's the type of inflation they can actually focus on, she explains. My concern is that if the Bank of Canada really does start raising rates as aggressively as market analysts have begun forecasting, it will do very little to solve the inflation problem, and will actually weaken economic growth even further. Donald says the Bank of Canada instead needs to communicate something closer to the message coming from the European Central Bank and the US Federal Reserve: that inflation is temporary, and price pressures will ease sometime in the new year without government intervention. "I don't think the Bank can move as quickly or as sharply as the markets are expecting," she says. Brace yourselves for one or two hikes next year.

As you can see, the moment circumstances shift, leading economists immediately start adjusting their key-rate forecasts, and it's worth stressing something important here: economists' forecasts matter a great deal, and we look at plenty of opinions, but they revise and adjust their forecasts readily as Canada's and the world's economic landscape keeps shifting, which leaves us to focus on what we actually control and choose the right mortgage today. There are proven ways to assess your financial situation and figure out the type and length of mortgage that fits it. And don't worry! If you're financially and mentally ready to buy a property, the timing is always right!