Investment Property in Ottawa - A Comprehensive Guide

Appreciation Rate of Investment Property in Ottawa

What matters more?

1. Cash flow
2. Appreciation

Most investors will say the answer is A: cash flow. There are good reasons for that. However, too many investors focus so tightly on cash flow that they miss other important considerations, such as various risks and, most relevant to this section, prospective appreciation. 

The error is understandable: Cash flow is contractually guaranteed (for the most part). Whereas risk and appreciation are hard to quantify. It’s tempting to say ‘well, we can’t predict those things, so it’s just as well that our proforma doesn’t assume any changes’. However, opting to assume the status quo is still an assumption. Moreover, it’s not even clear that it’s a safe assumption to make. After all, other investors may be more interested in neighbourhoods with better prospects for appreciation, which, in turn, lowers the cost, and thereby, improves the relative cash flow, of properties in neighbourhoods with worse prospects for appreciation. As such, a real estate investor who focuses solely on cash flow will be disposed to concluding that the neighbourhoods with the worst prospects are the best investment. 

The cost of ignoring a neighbourhood’s appreciation potential can be significant. Consider that, historically (the last few exceptional years excluded), Ottawa’s modest but steady rate of appreciation accounted for over half of a real estate investor’s return.  

• Real estate prices in Ottawa have increased, on average, 4.8%/year since 1957.
• The average capitalization rate in Ottawa is 4.5%. 

So we know that appreciation is an important part of the return that investment property provides. Now we need to identify investment properties that are likely to appreciate quickly. In this section, we do exactly that. First we’ll look at the historical appreciation rates for Ottawa’s various rental neighbourhoods, then we’ll look at upcoming changes that may affect the value of investment property in the city. 

Appreciation Rate of Investment Property in Ottawa

Change in the Average Sale Price in Ottawa

As a rough and ready take on the course of real estate prices over time, we can reference the average annual sale price. 

Now, we need to note that using the change in average sale prices as an approximation of appreciation will put our estimate a bit higher than it should be.

Why?

Appreciation is a measure of the rate of change of the value of a particular property; whereas average sale prices take into account every property sold on the market in a given year. The characteristics of the properties on the market change over time. However, the characteristics of a particular property remain constant through that change. For instance, the typical home sold in 1956 isn’t going to be comparable to the typical home sold in 2021.  

Moreover, while that typical home sold in 1956 would have been of average age in 1956; in 2021, it is now older relative to the rest of the market, which will cause its value to deviate from the average. 

Change in the Average Sale Price of a Cohort of Properties

So how do we measure appreciation (and not change in average market prices). One way is to look at the change in the average sale value of a cohort of homes. For example, we might look at the change in the average sale price of all homes built between during a period. By restricting our search to homes build during one period we can be more confident that we’re looking at the same kind of houses (on the whole) at the beginning of the period in question and at the end of that period. 

Appreciation by neighbourhood

Ottawa residential realty increased at an average annualized rate of 6.81% over the last decade (2012-2022), but that rate varies considerably by neighbourhood. Consider the 10 year annualized real appreciation rates for single family homes throughout the city. 

The difference is even more pronounced when we compare areas of the city at the sub-neighbourhood level. For illustration, consider the following 10-year annualized real appreciation rates (i.e. appreciation rates net of inflation) between 2010 and 2020 (i.e. with the unusual covid era appreciation removed).

• East side of Carlington: 5.30%
• West side of Carlington: 1.12% 
• Southern side of Lowertown: -1.38%
• Northern side of Lowertown: 2.65% 

Differences in annualized gains look small until you look at the cumulative effect over a number of years. Consider the cumulative appreciation in five Ottawa neighbourhoods listed below. 

Appreciation predictions for residential real estate

It’s generally accepted that when the cost of financing property rises, the market value of property falls. It seems to be that the decision to buy a property is largely a function of the monthly payments that must be made to carry it (not its sticker price). Indeed, the ability of a buyer to qualify for a loan is often a matter of the ratio of that loan to the income the property generates.

It’s also generally accepted that real estate prices are ‘sticky’ on the way down. 

If the qualifying ratio for the bank doesn’t change, then any rise in the cost of borrowing must be offset by 

1. a commensurate decline in the cost of the asset, 
2. an increase in income generated (higher rents), or
3. a reduction of leverage (larger down payment). 

Reducing leverage reduces the capital available to invest in property, which also puts pressure on prices. So, two of the three ways of offsetting higher interest rates point to softening asset prices.

That softening effect will likely manifest gradually. However, we should expect it to be countervailed, to some degree, by rising rents. 

In its spring 2022 analysis, the CMHC remarked

The combined effect, according to the CMHC, will be relatively flat, or slightly elevated prices until 2024. 

Over the longer term, a chronic construction labour shortage and faster rates of immigration will continue to put upward pressure on the cost of housing (whether to rent or own). 

This prediction is also supported by the CMHC, in great detail, in their report: Canada’s Housing Supply Shortage: Restoring affordability by 2030. 

In that report, the CMHC’s economists note that

“Ontario is the only province where there are more projected households than forecasted housing starts through to 2030… which will only make prices rise and erode affordability.”

“Labour capacity problems are most acute in Ontario, the province with the largest population and the highest price pressures.”

"Ontario, will have to double the number of starts it can produce under the best-case scenario to reach our 2030 affordability supply target"

Note that CMHC’s forecasts were based on provincial population projections that were made before the federal government increased its immigration targets from 250,000/year to 500,000/year. As such, it stands to reason that the shortage will be more severe than CMHC predicted. 

Appreciation predictions for multi-unit residential properties

As noted in the previous section. Rising interest rates will put some pressure on prices. The ultimate effect of that pressure will take some time to overcome recency bias. However, over the longer term, strong tailwinds will likely push rents, and consequently, prices, higher:

1. Higher interest rates will keep would-have-been buyers in the rental market. 
2. Massively accelerated immigration (from 200,000/year to 500,000/year). 
3. Supply bottleneck engendered by a chronic construction-labour shortage (which immigration policy does not adequately address). 

Light Rail will Affect Income Property Values

OC Transpo has reorganized its bus routes so that the LRT forms the new backbone of the transportation network. As such, transit riders living near LRT stations will enjoy shorter commutes. That additional convenience will positively affect property values near the LRT stations.

The LRT economic impact study commissioned by the City predicted a value increase of 15%-30% for properties within 600 meters of the LRT stations, and a lesser uplift as far out as 1200 meters from the stations.

According to the CPCS study, commercial real estate is expected to appreciate more than residential real estate. As such, at the neighbourhood level, land appreciation will largely be a function of the mix of uses near the station, with the greatest uplift occurring in areas with a greater proportion of commercial real estate.  

Although the study doesn’t speak to the effect proximity to the LRT stations will have on the values of multi-family rental properties in particular, the number of planned rental apartments near existing and future LRT stations is telling. 

• 633 rentals at Rideau Station.
• 1300 rentals at Bayview Station.
• 745 rentals at Gladstone Station
• 500 rentals at Bayshore Station.  
• 240 rentals at New Orchard Station.
• 132 rentals at Cleary Station.
• 2400-2700 condominium and 1000 rental apartments at Tunney’s Pasture.
• 191 rentals at Lees.
• 840 rentals at Blair
• 4000 condos at Trim Road.

Those are in addition to more recently considered projects at the St.Laurent and Tremblay stations. Many of the biggest players are placing big bets that strongly suggest proximity to the LRT will positively affect the value of multifamily rental property. 

The new supply of rental units is unlikely to create a supply glut and reverse the downward trend we’ve seen in vacancy rates. Consider that an additional 8300 renters move to Ottawa each year, nearly 50% more than the combined total of all of the aforementioned units. 

That value boost created by the new LRT lines is expected to be realized over a number of years (the exact number has not been estimated), so there’s still an opportunity to benefit from accelerated appreciation. That said, if you’re a highly speculative investor who likes to buy well ahead of the crowd, you may find some value in this map of the City’s vision for the LRT around 2031. 

Salvation Army relocation will affect property values

The Salvation Army has announced plans to relocate its shelter from George Street in the Market to Montreal Road in Vanier. In this section we consider what research and reason say about how it may affect property values. 

There has been little research on the effect of shelters on property values. That said, the research that has been conducted paints a consistent picture: 

• In low-income high-crime neighbourhoods: the addition of supportive housing does not harm values and may have a small uplifting effect. (Note: supportive housing is intended to help people become self-sufficient.)

• In high-income low-crime neighbourhoods: the presence of a homeless shelter does adversely affect values (Note: homeless shelters are intended to give people a place to sleep for a night). 

Those observations make sense. When an organization builds homeless accommodations in badly disadvantaged neighbourhoods those accommodations are more likely to be serving badly disadvantaged people who live there. If the accommodations help those people improve their circumstances, then the socioeconomic landscape of the neighbourhood should improve as well. Moreover, even if those accomodations were to attract homeless people to the neighbourhood, the effect of those new residents on the socio economic landscape of the already badly-disadvantaged neighbourhood would be less pronounced than it would be if accomodations were built in a wealthy neighbourhood and attracted homeless residents to that wealthy neighbourhood. 

Given the lack of research on the effect of homeless shelters on property values, reasoning with more thorough research may yield a clearer picture. 

• Violent crime and theft dampen appreciation. 
• People are more likely to perpetrate violent crime and theft while homeless. 
• Shelters cause (and do not just correlate with) an increase in theft near the shelter. 

∴ The creation of a shelter dampens appreciation.

• The increase in theft caused by the creation of a shelter is most pronounced within 400m of the shelter.  

∴ The dampening effect on appreciation caused by the creation of a shelter is likely most pronounced within 400m of the shelter.

However, the Montreal Road shelter will not be like the other shelters: First, use of the shelter is contingent on sobriety and abstinence. 

Second, the residential parts of the facility exit into a courtyard that is designed to be a more pleasant place for clients to ‘be’ during the day. Additionally, the distance between the courtyard and Montreal Road is intended to make the courtyard a more convenient place for residents to ‘be’. Those design features are intended to encourage clients to loiter in the courtyard rather than along the street.

Optimists may contend that the combined effects of the courtyard and the Salvation Army’s abstinence policy will mitigate the Shelter’s effect on property values. 

Will Ontario’s Bill 23 affect values in Ottawa?

Bill 23, titled The More Homes Built Faster Act is the backbone of the Ontario Government’s plan to address the province’s chronic undersupply of houses. The bill aims to encourage industry to provide 1,500,000 housing units within the next decade. To that end the bill amends almost every act connected to development:

• the New Home Construction Licensing Act,
• the Planning Act,
• the Development Charges Act,
• the Ontario Heritage Act,
• the Municipal Act,
• the Conservation Authorities Act, and
• the Ontario Land Tribunal Act. 

The most notable changes include

• Allowing, as of right, up to 3 units on lots zoned for single family homes: Bill 23 would permit both a basement apartment and a garden suite; currently Ottawa by-laws allow only one of the two.
• Site plan control now required only on projects with 10 units or more: previously, projects with more than three or six units (inside, and outside, the Greenbelt - respectively) were required to proceed through the costly site plan control process, which often added a few hundred thousand to the project’s costs and delayed construction by eighteen months or longer. The economies of scale needed to offset the additional cost effectively precluded the development of many otherwise viable mid-size projects. 
• Prohibiting third parties from appealing to the Land and Planning Tribunal: going forward, only the developer and municipality will be permitted to appeal decisions on development applications. Previously, anyone (but typically, neighbours and community associations) were able to do so without cost. 
• Properties protected from heritage designation once development applications are filed: previously, municipalities could, and often would, apply to have a property heritage designate in response to (or, perhaps more accurately, in reaction to) the filing of development applications - and thereby preventing redevelopment. Bill 23 prohibits reactive applications for heritage designation. 
• More density along major transit corridors: Ottawa’s new official plan called for greater density near transit (and even went as far as implementing density minimums in areas within walking distance to the LRT). Bill 23 further increases the as-of-right density limits along major transit corridors, with the largest increase being seen along bus transit corridors. 

So what difference will this make to values? 

Increase in land value along major bus transit corridors. The price per buildable square foot is arguably the most important metric for appraising the value of urban land. The price per buildable square foot is calculated by dividing the price of the land by the floor area of the largest building that can be built, as of right, on the land. For example, if the largest apartment I can build on a lot is 12 storeys tall and 10,000 SF per storey, then (assuming the storeys are all equally large) the buildable area is 120,000 SF. If the lot were purchased for $100/buildable SF, then the sale price would be $12,000,000. If the builder is willing to pay $100/buildable SF, and the tallest apartment permitted on the lot is now 16 storeys tall, then the value of the lot to the builder increases to $16,000,000. Of course, there are multiple sellers, so the market is competitive, which puts pressure on prices. As such, we shouldn’t expect to see prices rise in perfect proportion to the increase in buildable area. Nevertheless, the value to buyers is now greater, and so we should expect some kind of an increase in value. 

Decrease in value of smaller R3 zoned lots. R3 zoning permits up to 3 units on a lot (aside: it also allows for row houses where lot sizes are large enough to accommodate them). With up to 3 units now allowed on lots bearing the most common residential zoning (R1), the supply of lots that permit up to 3 units has likely grown by an order of magnitude. If this additional supply has an effect on values, it will be to put pressure on the value of previously scarcer lots where 3 units were permitted as of right. 

Increase in value of R4 zoned lots. R4 zoned lots typically restrict height to 4 stories, but otherwise don’t restrict the number of units a developer may build on a lot so long as the proposed structure respects minimum room sizes (which apply to all dwellings) and set back requirements. As such, R4 lots are most appropriate for mid-sized developments. However, mid-sized developments do not present the kind of economies of scale needed to offset the time and expense of the site-plan control process. With developments of up to 10 units now exempt from that process, there are more viable options for the redevelopment of R4 lots. As such, we should expect demand for, and consequently, the value of, R4 lots to rise.