How real estate investors and speculators helped fuel the onslaught of rising interest rates

The old deal when you owned a home was low interest rates and rising equity.

The new deal consists of rising interest rates and falling equity. This shift is being brought to you in part by real estate investors and speculators. They contributed to an inflationary problem that drives up interest rates and lowers prices.

The Bank of Canada hiked its benchmark overnight rate by 0.5 percentage point on Wednesday, bringing the total increase this year to 1.25 points. Expect another 0.5 point increase on July 13 and more thereafter.

The reason for this rate hike rush is the steady rise in inflation to a 31-year high of 6.8 percent in April. Housing occupies a prominent place on the Bank of Canada’s list of inflation concerns.

In a speech last month, Deputy Governor Carolyn Rogers focused squarely on housing. “We need higher interest rates to dampen demand, including housing demand,” she reportedly said in a Reuters report. “The growth in home prices in Canada is unsustainably strong.”

How did housing construction become so unsustainably strong? In part because our national obsession with homeownership has been heightened by the pandemic. Interest rates have been lowered to prop up the economy and lockdowns have left people hungry for homes with more space.

The growing number of real estate investors and speculators took housing construction to the next level. Individual investors accounted for just over 20 percent of all nationwide buying in the first half of 2021. Given that prices didn’t peak until February of this year, it was likely that investor buying was an even bigger factor in the second half of 2021.

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The monthly payment for a new mortgage on a typical home has increased nearly $800 since October

The consumer price index used by Statistics Canada reflects the cost of housing in a variety of ways, including the cost of new homes and homeownership-related expenses. Rannella Billy-Ochieng, economist at RBC Economics, said these costs accounted for about 20 percent of the rise in inflation in recent months.

Housing also plays a part in the psychology that keeps inflation going. Until recently, buyers were willing to bid hundreds of thousands of dollars above the asking price on homes for fear they might not be able to afford a purchase down the road. Speculators and investors helped create this sense of urgency.

Behavior in the housing market worries the Bank of Canada as it suggests inflation is taking hold in the economy. The bank’s seriousness about inflation is reflected in the fact that rates are rising in 0.5 point increments, rather than the more typical 0.25 point hike we’ve seen in the past. At the beginning of spring there was even speculation that interest rates could rise by an extraordinary 0.75 points in one fell swoop.

Increases in the central bank’s overnight interest rate directly affect the cost of adjustable rate mortgages and indirectly affect fixed rate mortgages as well. Erica Alini, Globe’s personal finance reporter, recently wrote about data showing that monthly payments for a new mortgage on a typical home rose nearly $800 from October through April.

Investing, whether in homes, stocks, or cryptocurrency, means accepting the possibility of losing money in order to get a better return than keeping money safe in cash or savings. Seasoned real estate investors would have foreseen the possibility that rising interest rates could hurt home prices, and the inexperienced will learn.

Ordinary homeowners should have been prepared for higher rates, too. But without the influence of home-buying investors, those rate hikes might have been less of a drag.

Imagine that you and your young children bought your first home five years ago, when a five-year fixed-rate mortgage was available at a bargain price of 2.25 percent. You bought the apartment to live in, not to turn around or rent out. You’ve made improvements to your property and the community has benefited from your presence.

Flash ahead to 2022 – You now have to extend mortgage rates by around 4.2 percent for the same five-year fixed rate. There is a significant increase in mortgage payments, brought in part to you by real estate investors and speculators.

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