Investors should be wary of rising building costs

The Canadian Real Estate Association reported a 38% year-over-year increase in housing prices in May, and while it would appear investors are sitting on a sure thing, the reality of rising material and labour costs has made it difficult for supply to keep apace with voracious demand.

Rising cost of materials

According to Riz Dhanji, president of RAD Marketing, which has worked on iconic developments like the Shangri-La and 1 Delisle, the cost of materials as well as political sanctions and regulations are pushing the price of development higher.

In the steel industry, production is nowhere near pre-pandemic levels, and between scarcity and panic buying, prices hit a 20-year high.Even humble concrete has been hampered by supply chain backlogs and breakdowns, and that in turn has slowed construction during the current housing boom.

Effects of the new inclusionary zoning regulation

As of January 2022 in Toronto, new building sites will be mandated to offer 3-10% of units at below-market rental prices. As Dhanji puts it: if a one-bedroom unit rents for $2,100 per month, the city is saying, based on low-middle averages, the max you can charge for the affordable units is 30% of their gross-servicing ratio. This means if you’re charging $2,100 a month, you have to be able to offer the 3-10% of your units at $1,550 a month. This puts the burden of costs on the developers and the market-rate tenants, asking them to subsidize the lower priced units. Even in a growing development boom, these regulations may chill development projects within the GTA.

Labour shortage

Labour costs are already rising due to the shortage of trained tradespeople, a trend that is likely to continue with more retirements on the horizon than there are new apprentices each year. With trained workers spread thin, construction slows down and budgets increase.

The fate of development in Ontario

Despite these chilling effects, all is not lost.

“COVID has proven that even amidst lockdown—for 15 months—our real estate market has still flourished,” said Kirin Singh, CEO of ROI Developments Inc. “We’re still not seeing the effects of reopening the economy post-COVID, and once that happens? Prices will continue to soar.”

According to Singh, in the next five years, we could see condo valuation increase by 5-10% as the market evens out, and in new homes, it could be as high as 8-10%, although developers may still feel the pinch of rising costs.

The way Singh sees it, the new crop of homeowners will want more flexibility and remote work opportunities, accelerating trends catalyzed by COVID and the need for tech workers. She’s banking on luxury apartments with office space and room for kids as working from home continues to be popular among millennials and zoomers alike. Tech jobs are going to be an invaluable part of Canada’s economy over the coming years, and other types of remote work are following hard on their heels.

Investors are going to have to keep their eyes on labour and material costs over the next five years, but once the floodgates of demand open? The real estate market is going nowhere but up.