We’ve heard it before and now we’re hearing it again: the real-estate bubble is about to burst.
At least, things appear to be headed that way, according to a new survey by analytics-software company FICO. It found that 56 per cent of respondents — people directly involved in mortgage lending — expressed concern that “an unsustainable real estate bubble is inflating”.
Not all analysts buy the bubble-is-about-to-burst claim, arguing that markets vary greatly from region to region and that cycles are natural.
But if the naysayers are right, we’re in for a whole lot of pain. A potential pop will be especially difficult given Canadians’ debt load. Although the household debt to disposable income recently declined slightly, it’s still at a staggering 163.2 per cent.
Call it paranoid or prudent: by assuming the worst you can be prepared for the kind of burst that’ll hurt.
Your place in the aftermath
We won’t know how messy things are going to be until after the bubble has blown up, so start by identifying just how badly you could be affected.
Scott Hannah, CEO of the Credit Counselling Society, suggests identifying factors that could leave you especially vulnerable to a market correction. Some examples:
- Do you work in an industry that would be negatively affected by a bubble bursting, such as construction?
- Do you have a home equity line of credit (HELOC) that you draw from regularly or less than 20 per cent equity in your home?
- Do you have high non-mortgage debt, such as credit cards and car loans?
If you’ve answered yes to any or all of those questions, you’re in a prime position for some disaster planning.
Say things do take a downturn: Stay calm.
“The worst thing a person can do if going through a burst bubble is react to it,” Hannah says. “In 2008, when the market had a crash, people took a hit. Those who locked in a loss and cashed out suffered heavily. Others were uncomfortable but took time to reflect and not panic, and they’ve recovered and their portfolios are higher today. Selling out and taking a loss is a terrible thing to do.”
In fact, the effects of a correction are typically more emotional than financial, notes certified financial planner Kelsey Smart of Freedom 55 Financial and Quadrus Investments, assuming you’re not a serial flipper.
“A housing market correction won’t much affect the average Canadian homeowner, so long as they’re prepared to hang onto their property through a temporary downturn,” Smart says.
Zero in on spending, saving and budgeting
When times are tight, your money habits may need a serious makeover. Hannah suggests tracking spending for one or two months: “I’m talking every dollar,” he says. “It’s surprising, but on average, when we sit down with clients, they can only account for a maximum of 80 per cent [of where their money goes]. Typically the other 20 per cent is one big miscellaneous pot.”
Look at cutting costs by at least 10 per cent. If that seems unattainable, reverse your thinking. “What were to happen if the economy was in a downtown and your income was cut by 10 per cent today?” Hannah says. “What would you do?” Usually, there are areas where you can cut costs.
Consider consolidating debt
Write a list of all the debts you have and the interest rate each carries. Hannah commonly sees people with six or seven types of credit, such as credit cards, lines of credit, retail loans, car loans and the like. All of those interest charges add up quickly.
Pay off high-interest debts first, such as those department store cards that come with a whopping 28 per cent interest. “It may or may not be worthwhile to consolidate that debt for a lower payment,” Hannah says.
Lock in your mortgage or renew at a lower rate
Variable rates are tempting, but they’re not for everyone. Run the numbers to see if you could handle a jump if rates were to go up. If not, consider a fixed rate.
“It might cost you a little more but it’s important to have the sleep factor,” Hannah says. “Too often people just hope and pray that their variable rate mortgage stays low.”
Keeping an emergency fund is a must. Aim for six months’ worth of expenses so that you don’t get sucked into the world of credit to make ends meet.
Then there are other contingency plans to consider.
“What if the main breadwinner in the family were to suffer an interruption in employment, due to unemployment, disability or critical illness and it becomes too burdensome to continue making mortgage payments during that stressful time?” Smart says. “Have an emergency fund in place. Have disability income protection in place. Have critical illness coverage in place.
“What happens if a husband and wife share mortgage payments and one predeceases the other?” she adds. “Have adequate life insurance in place so that the survivor is not forced into selling the home at an inopportune time, perhaps during a housing market downturn, when they might not receive what the home is worth.”
First-time home buyers beware
Consider the pros and cons of renting versus owning for a few years.
“If you’re about to buy, and you’re concerned about a possible bubble in the next few years … what’s your plan for this home you’re about to buy?” Smart says. “Are you planning to buy it now and sell it in three to five years? It’s very difficult to realize a gain on a condo in that amount of time, once realtor fees, legal fees and potential market downturns are taken into account.
“Interest rates are low now, so it’s attractive for interested buyers to finance at a low rate,” Smart adds. “However, are you prepared to hold onto your property in a few years if the market takes a dip? Low rates alone are not a good enough reason to buy now if the timing is not right for the rest of your financial plan.”