Foreign investors coming to Canada must be either oblivious to the relative valuations of Vancouver vs US real estate or are as dumb as a post.  The chart below demonstrates just how much of a spread has developed between Vancouver home prices and US home prices in Canadian dollars. For a rational foreign investor buying investment property the decision should be a no-brainer: World class US cities priced at distressed multiples and in “cheap” greenbacks ,or an over inflated Vancouver market which is priced at unsustainable income multiples and in a currency that has seen strong appreciation.  As you can see from the chart the relative valuations have gone from pillar to post – with US home prices at one time valued at approximately 2X Vancouver to now being valued at roughly 1/2 of Vancouver prices.

What is it then that makes foreign investors ignore the fire sales across the border? Is it our free health care system that they are coming for???  If the rich immigrants are as rich as we hear, why would they need a free health care system especially when an affluent individual can set themselves up to receive better health care in the US.  Are there massive tax differentials on foreign owned property to justify the spread?  It is most likely the “buy in” to Canadian citizenship which is the draw for many.  As well, the herd mentality must also be a contributing factor.

In any event – I doubt that these relative valuations can be maintained – What do you think?

Chart 1)

The chart above displays Vancouver, Toronto, Calgary, and Montreal home prices vs. the TSX index.

The purpose for this measure is to understand the relative performance of two regional asset classes. Both asset classes should, over the long term, be correlated to fundamental Canadian economic characteristics; Such as, interest rates, wages, GDP growth, productivity, and even themes such as Chinese growth, global inflation, energy demand etc.

Over the long run you should expect equity markets to outperform real estate for a number of reasons, but most importantly these two points:

1) A higher return for equities is necessary to compensate investors for the higher risk profile
2) Over the long run no asset should be worth more than the present value of their future generated cash flows.

I re-based both measures to the late 90s when each market appeared to have reached their relative lows simultaneously. This time period is also significant because it marked a period of calm before a few very important changes to the Canadian economic landscape, including:

Interest rate cuts – Post 911
Energy Bull market and resulting “economic multiplier”
Chinese growth demand of commodities
Canadian currency bull run – related to a couple of points above

What I would have liked have done is to look at the ratio of total Canadian Real Estate values in nominal terms vs total Canadian equity index market capitalization. I leave that to someone else if they have the time, resources, and interest.

I used a moving three month average for both the price index and the tsx in order to smooth out the volatility. I didn’t bother looking at a “Total Return” measures for either asset class since their ability to generate future cash flows should be, at least partly, reflected in the price of the asset. All other notes are on the chart!

Image 2)

I hear a lot of different stories about sales volume – so to clean out the noise, I took the data from Teranet National Bank House Price index on “Sales Pairs” used for calculating their price index. It isn’t total sales volume but it does give us an idea of trend. I took the average sales volume each year and in each season in the 1990’s and compared it to the corresponding season over the last decade. Other than that initial quick burst during the 2009 recovery, sales volume has not recovered to what it was prior to the recession.

Keep in mind, since there are obviously more homes now than there were in the 1990s you should expect some level of inflation in the volume percentage. However, we really aren’t seeing it. Sales are pretty similar to 2001 at best.

I took a quick look at Canadian housing prices in certain cities over the last 25 years a multiple to the Toronto stock exchange – I took month end data but smoothed the TSX over trailing three months

– I figured that the TSX takes into account, interest rates, earnings, asset inflation,… and all the other factors that trickle down to housing prices.

What I found is that if the TSX doesn’t appreciate.
Vancouver real estate requires (based on comparative multiples):
1) a 10% drop just to be at the normal end of – expensive from extreme expensive
2) a 20% drop to be at the high end of normal
3) a 30% drop to be at the cheaper side of normal
4) a 40% drop to be in line with the lowest multiples we have seen in the past.

But what i am sure about is that there is no way that the multiple can expand anymore.

If I could trade vancouver real estate on an exchange – I would short it and us treasuries.