Falling Rents May Impact House Prices

A recent report from Capital Economics highlights falling rents in Canadian cities, especially Toronto and Vancouver, and points out that this could have a significant knock-on effect on Canadian house prices.

The report identifies several reasons why rents are falling:

1. The surge in unemployment due to COVID-19 lockdowns has hit low-wage earners the hardest, and they are typically renters. Large numbers of these people can no longer qualify for rentals and, even if they can, they may want to stay wherever they are until the situation is less uncertain.
2. Because of COVID-19, Tenants in rental properties who are planning to move out are generally unwilling to allow viewings of their unit by prospective new tenants. This means that the landlord may have to wait until the existing tenant moves out to start the rental process and, in turn, this may increase the landlord’s motivation to get the unit rented quickly, even if it means a reduction in rent.
3. Much rental demand comes from new immigrants, and COVID-19 has caused immigration to drop from about 30,000 per month to almost zero.
4. The temporary ban on short term Airbnb has shifted many of these properties to the longer term rental market, increasing inventory.
5. As university teaching moves online, this will likely reduce the demand for rentals by university students.

Since Toronto and Vancouver receive most of the new arrivals to Canada and also have the highest share of short term rentals, these two cities could see the largest fall in rents. For instance, Capital Economics projects that, in Toronto, the vacancy rate could jump from 1.5% to 4.5% by July, and even further in the fall depending on what happens with universities. Their calculations suggest that this could translate to a huge 15% drop in rents. As the economy ‘reopens’, and especially if travel restrictions are quickly loosened, the impact on rentals could be mitigated, but Capital Economics expects that the best case scenario will be a 5%-10% decline in rents.

With rents declining, many owners of rental properties may decide to sell, adding to the supply of properties for sale and exacerbating the decline in resale prices that is already underway.

These projections are, of course, highly uncertain, and depend critically on how quickly, and to what extent, our economy returns to something resembling ‘normal’ in the coming months.