Overall housing strength masks regional divide

Canada’s construction boom is expected to continue throughout this year and into the next, although 2007 should see a slight decline in the number of new starts, according to a report from Canada Mortgage and Housing Corporation.

The total number of new starts for 2006 is expected to reach 227,900 by the end of the year, sinking to 209,000 next year. Despite the anticipated decline, 2007 should mark the sixth consecutive year with starts exceeding 200,000 units.

“Housing starts this year will be stronger than previously forecast, mainly due to persistent strong demand in Alberta where starts will increase by 20% in 2006,” said Bob Dugan, chief economist at CMHC. “Higher mortgage carrying costs, due to modest increases in mortgage rates and rising house prices, will temper housing demand in Canada in the latter part of this year and next.”

Mortgage rates have been on the rise along with central bank rates both in Canada and south of the border. Last week, the U.S. Federal Reserve paused its credit-tightening cycle, after 17 consecutive rate hikes, over concerns that the economy was cooling down.

There is much speculation that both the Fed and the Bank of Canada will begin cutting interest rates in 2007 in an effort to stimulate further growth. Mortgage rates are not so much affected by short-term rates, as they generally reflect long-term bond yields.

Long-term yields have been on the rise, with investors moving increasingly toward the short end of the flattening curve. With short-term debt paying roughly the same as long-term debt, investors can reduce their opportunity risk with the shorter duration. As demand for long-term debt falls, the yield on those instruments rises, in turn driving mortgage rates.

Housing demand has not only driven new construction, but also fueled sales of existing homes. Sales are expected to reach 481,700 units for 2006, according to the Multiple Listing Service, making it the second-best year on record in terms of volume.

Growth in the real estate market tends to follow that of economic performance, so it should come as no surprise that the western provinces have led the market, as the high price of oil pours cash into the local economy. That pattern is expected to continue for the foreseeable future. In 2005, already-strong Alberta was the site of just under 41,000 new starts. That is expected to reach 49,000 by the end of this year, with another 45,000 breaking ground in 2007.

Meanwhile, the Ontario and Quebec markets may be seeing a spillover from the weakness in their manufacturing-based economies. Ontario is expected to see an erosion of starts from nearly 79,000 in 2005, to a projected 70,000 in 2007. In Quebec, there were nearly 51,000 starts in 2005, but just 40,000 are anticipated next year.

These provinces have been struggling to adapt to the strong Canadian dollar — itself a product of rising interest rates and soaring oil prices — and its impact on American demand for Canadian-made manufactured goods.

Filed by Steven Lamb, Advisor.ca, steven.lamb@advisor.rogers.com