Will real estate prices plunge? That may depend on the sellers

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Buying Home Burnaby BC

The economic uncertainty surrounding COVID-19 has contributed to contradictory estimates of future housing prices and sales. Leading the bears is the Canada Mortgage Housing Corporation (CMHC), projecting average housing prices to fall by nine to 18 per cent.

Others, including economists at the Canadian Real Estate Association (CREA), are not convinced prices will fall as steeply as the CMHC projects. Many homebuyers and sellers have been left perplexed by these conflicting forecasts — much can go wrong if they rely on the wrong estimates in their buy and sell decisions.

Will real estate prices plunge? That may depend on the sellers

Regardless of the sophistication of algorithms, forecasts are necessarily a byproduct of the assumptions forecasters make and the data they use. Assumptions, inherently, are neither right nor wrong. They are informed guesses about future outcomes. When reviewing a forecast based on modelling, always remember the advice from the famed statistician, George Box: “All models are wrong, but some are useful.”

The CMHC forecasts were generated using “a specific set of assumptions for the market conditions and underlying economic fundamentals,” The forecasts are for the average price in Canada. Local market forecasts could be much different. CMHC reported provincial estimates for prices, sales and housing starts, with all provinces seeing the same trend of falling metrics through 2020 and a rebound starting later in 2021.

CMHC’s report does not disclose the methods or data used to generate forecasts. The report mentions that CMHC forecasts deploy the “full range of quantitative and qualitative tools currently available.”

Homebuyers and sellers need to be able to understand what forecasts mean for their decision-making processes. Economists prepare estimates with care. However, when predictions differ from the real outcomes, economists readily revise their projections. Homebuyers and sellers, once they have transacted, cannot “revise” their transactions. Hence the stakes are higher for the ones active in the market.

Another way of thinking about future housing prices is to think about the willingness of sellers to accept lower bids for their listings. If one is of the view that sellers will be, on average, willing to accept bids 18 per cent or more below than what they could have received before March 2020, a significant decrease in housing prices could be inevitable. However, this seems to be an unlikely scenario.

If prices start to decline significantly, sellers can slow or even freeze the market by not listing their properties, withdrawing them from consideration, or refusing a lower bid. Sellers’ unwillingness to sell dwellings at lower-than-expected prices can protect against a freefall in housing prices. Also, when less inventory is available for purchase, buyers may have to compete, which could put upward pressure on prices.

Lastly, the average decline in the average price does not imply that an individual dwelling will experience an average drop in valuation. Why? Because the average price forecasts ignore the differences in sizes and quality of housing or the fact that when economic conditions worsen, higher priced homes stop transacting, and lower-valued homes dominate the sales. The shift in the structural composition of housing gives a false impression that housing prices are falling. 

Homebuyers and sellers should have a look at the market forecasts. But they should base their decisions on their circumstances and local housing market conditions. Remember, forecasts are useful, but not necessarily accurate.

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