Bank of Canada’s Higher Interest Rate Impacts Real Estate

Bank of Canada’s interest rate decision could impact REITs like CAPREIT (TSX:CAR.UN).

| More on:

The Bank of Canada raised interest rates yesterday. Considering how overleveraged Canada’s economy is, this move could have a drastic impact in the months ahead. Much of this impact could be observed in the country’s biggest economic engine — real estate. If you own real estate or investment trusts in your portfolio, here’s what you need to know. 

Bank of Canada’s strategy

The Bank of Canada has launched its most aggressive rate-hike policy in decades. For years, the key interest rate was held at 0.25%. Earlier this year, the central bank raised it to 0.50%. Yesterday, it doubled it to 1%. That’s the biggest spike since May 2000. 

And the central bank isn’t done yet. In its publications after the announcement, the Bank of Canada has indicated that it expects inflation to remain elevated for the rest of 2022 and perhaps into 2023. To tame this wave, interest rates need to rise higher. That means we could see another 0.50% move in the next meeting on June 1.  

Rising interest rates impact everyone. It raises the cost of debt for the government, corporations of all sizes, and even average households. Understanding this impact is the key to making the right investments in the months ahead. Here’s how to play this trend. 

Risky real estate 

Residential real estate across the country is staggeringly overvalued. On the basis of price-to-rent or price-to-income ratios, Canada’s homes are more overvalued than comparable homes in New York or London, United Kingdom. That’s unsustainable. 

House prices have been kept afloat by cheap debt. But if interest rates are rising it could dent home buying demand. Meanwhile, the rising cost of essentials like food and fuel is already putting downward pressure on household income. Put simply, residential real estate is at risk. 

Real estate investment trusts (REITs) like CAPREIT (TSX:CAR.UN) could bear the brunt of this downturn. The company is overexposed to residential real estate. The company owns and manages over 65,000 suites and development sites across major cities in Canada (and some in the Netherlands). 

The company’s book value could take a hit if Canada’s housing market corrects. Meanwhile, the company’s ability to service its debt of $6.45 billion could come under pressure as rates rise. If we dip into a recession, rental income and cash flows could also be impacted. Investors need to watch this trend closely. 

Undervalued real estate

Canada’s real estate bubble doesn’t extend to all sectors and cities. Residential real estate in Alberta, for instance, is arguably undervalued and could find more support as the price of crude oil remains elevated. Meanwhile, commercial real estate has lived through a severe downturn and could have less downside risk than the housing market. 

A commercial landlord like RioCan REIT should be on your radar if you’re looking for a real estate bet despite the rising-rate environment. That being said, avoiding the real estate sector altogether may not be such a bad idea this year. 

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Vishesh Raisinghani has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned.

More on Dividend Stocks

space ship model takes off
Dividend Stocks

TSX on the Rise: 2 Momentum Stocks to Buy Immediately 

The TSX Composite Index started marching upwards in mid-January. Among the stocks that rallied, a few are picking up momentum.

Read more »

ETF chart stocks
Dividend Stocks

Here Are My 2 Favourite Growth ETFs for 2025

Looking for long-term growth? Check out these top Canadian ETFs for 2025: the iShares Canadian Growth Index ETF (TSX:XCG) for…

Read more »

happy woman throws cash
Dividend Stocks

Transform Your TFSA Into a Cash-Creating Machine With $15,000

Want a cash-creating machine? This dynamic duo offers insane yields and stellar growth, making them must-have, must-buy options.

Read more »

Senior uses a laptop computer
Dividend Stocks

If I Could Only Buy and Hold a Single Stock, This Would be it

Sometimes we just have a few bucks we're ready to invest. So how about considering this top stock.

Read more »

Investor reading the newspaper
Dividend Stocks

1 Canadian Stock Ready to Start 2025 With a Bang

If there's one area of the market that will always be ready to burst, it's healthcare. And this one is…

Read more »

clock time
Dividend Stocks

2 Brilliant TSX Stocks to Buy Now and Hold for the Long Term

These fundamentally strong TSX stocks can not only deliver strong returns in the long run but also provide resilience through…

Read more »

Dividend Stocks

Top Canadian Stocks to Buy for Your TFSA

These TSX stocks have increased their dividends annually for decades.

Read more »

chart reflected in eyeglass lenses
Dividend Stocks

3 Blue-Chip Dividend Stocks Every Canadian Should Own

Sometimes investors think too hard when they could simply pick up these blue-chip stocks.

Read more »