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episode # 337

The Market is Shifting but How Far Will Prices Fall? With Zack Ross

The shock and awe of the jumbo interest rate hikes seems to have subsided and some industry people are even seeing an uptick in the market. But what does this mean for the balance of 2022 and 2023? Will prices continue to soften or will low inventory and rising construction costs keep prices stable and the market balanced? Zack Ross, President of Cape Group, sits down with Matt & Adam to answer these questions and the current state of the market, where the investment opportunities lie, and the various headwinds currently facing the development community. Listen up!

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Episode Summary


 

Who is Zack Ross?

I’m the third generation in the Cape Group of companies. I’m a husband and dad to two young boys. 

Cape Group was started by my grandfather, who was a prairie boy who moved to Vancouver. He worked in construction and evolved Cape Group into development and construction management work, as well as some property management. My mother has been involved in the business since she was a kid and I was the same. My dad is a doctor and not involved in the Cape Group business at all. 

Cape Group has built multi-family, industrial, commercial, hotels, resorts, etc. We build everything you can see! We primarily build in Western Canada but just started our first project in Toronto. We’re actively looking for more projects in Toronto. 

How’s the real estate market? 

It’s an interesting time in the real estate market for sure. I think the biggest thing is we’re going to see projects paused, which will impact supply and demand. Unfortunately, rental rates will rise because people won’t be able to afford homes based on the costs to build. 

It is tough to forecast, especially since the Bank of Canada said they wouldn’t raise rates for a long time and then they did. And while rates are still low, on a percentage basis, the jump has been huge.  

Are rental projects less attractive now to build and own?

A few years ago, the market corrected 10-15%. Rates were low and there was a lot of attractive financing for rental projects. Typically condos are easier to build from a financial perspective but with the financing programs available, rental became ideal. But as interest rates rose and construction costs rose, you needed more money to get these things built. 

You have to ask, “How will we fund these projects to get built and bring housing to the market?” If you want to tackle affordability, you need more homes. That’s our solution moving forward; we just need more homes. Prices may come down, but not enough to make a big impact on affordability. 

Why aren’t we building more homes?

Housing is not just a Vancouver issue. It can take 3-10 years from the time you buy a piece of land until you have the housing ready for the market. We need to get housing onto the market faster. That can be done with things like pre-manufacturing or making the permitting process more efficient. Everyone needs to come to the table and agree we need to find solutions that work. Everyone needs to play their part. 

What is the process of bringing a housing project to market? 

At Cape Group, the first thing we do is look at the city’s policy to see where we fit. We want to find a development site where we can put 50-100 homes. We then have to find a group of homeowners who are willing to vend their properties to a developer.

Step two is applying to the city with our plans. It can take 2-3 months to get a concept together. The city will then look that over and provide feedback. 

Next we’ll go through a rezoning or redevelopment process – sometimes both. And then we need to turn our plan into a design for building. It takes 18-24 months, sometimes 36-40 months, for construction. So construction can take a while, but sometimes it takes just as long to get to the construction phase.

We need to shrink these long periods of time it takes to create housing. Borrowing money for a long period of time is costly. Plus, if projects take too long, developers find themselves delivering product in a very different market than they started building in.

How do you find a real estate deal?

We have a network of people we check in with regularly. We also partner with people. We do a lot of discussions off-market. We don’t do much on the market as it’s usually very picked over.

Where does Cape Group work? 

Vancouver is a very important market to us. We’re looking all the way out to Abbotsford. We are also interested in Alberta and have some properties in Edmonton. We haven’t focused on Calgary yet. And now we’re moving into Toronto.

We’ve also started looking at the US as an option for residential rental. We’re interested in Seattle, Portland, Boise, Nashville and Austin. We like something close to home but also somewhere that is a tech hub with a growing population. 

Most of the rental we do is build and hold. We provide housing to people long term and act like a landlord. In fact, some of the properties we built in the 1970’s we still own. And in one, we’ve actually had three generations of the same family live in the property. 

What is a day in the life of Zack Ross?

My day starts with breakfast with the kids, which keeps me grounded and is a fun way to start the day. Then I go to the gym. It helps keep me focused and manage stress.

Next I head into the office and review with the team about what’s going on. We’re constantly monitoring the news. Some days I’m more focused on construction and others it’s more about property management. My mom manages more of the real estate portfolio while I manage more of the operational side. Together we oversee the overall mission.

I have a great team and couldn’t do it without them. 

What happens in the real estate market in the next 6 months to 3 years?

I think there will be a pause in the next 6-12 months with projects that had a pro forma that worked but no longer does. I was told there are currently 77 projects on hold. Excavating companies are calling looking for work; that wouldn’t have happened six months ago when everyone was booked.

I think there will be 1-2 more interest rate hikes but then they’ll have to bring it back down. That seems to be the consensus in the construction and banking industries. I think it’ll be 12-18 months of “let’s see what happens.” 

We’re past the initial period of fear that people had. People seem to know what’s going on now. 

The long-time homeowner in Vancouver has so much equity in their home. If they don’t have to go anywhere, they’re not going to sell. People who got in the market more recently might have more of a challenge. But if they were able to get in and can afford to stay in, they won’t want to walk away from that kind of equity. 

Just because there are fewer transactions doesn’t mean the market isn’t frothy. Inventory is low and people can get stuck. 

When will the real estate market be back up?

I think the real estate market will turn back up in 12-18 months. But it will depend on the next interest rate hike. What they do with that rate hike will tell us what the Bank of Canada thinks. But if all of these projects are on pause and then they all try to start up again at the same time, that will be a problem. It will be a rush to the finish.

Does Cape Group currently have projects on pause? 

One project we have at 2nd and Quebec is paused. We had dug a huge hole in the ground and just as we were about to start moving on it, the Broadway Plan got approved. So now that area is zoned for greater density, meaning we’re redesigning that project for additional housing. We have to do a rezoning which will take 18 months. But we’re hoping to still make it an artist-central rental building. 

The project we have at 1st and Scotia was going to be mass timber but we’ve had to convert it to concrete. It’s not quite paused, but we’re trying to figure out some details with the city. We expect to start construction by the end of this year or early next year. 

We have a project at Charles and Nanaimo which has been permitting for five years. We bought that site under the Grandview-Woodlands plan, designating a six-storey building. We wanted to create family housing with a central courtyard to promote sociability. But some of the design team didn’t like the concept. 

We had a number of UDPs; a UDP (urban design panel) is a group of peers who comment on the plans and present their findings to the city. One architect didn’t like the C2 zoning, so everyone got on that train. We then switched from condos to rentals and went through the rezoning and permitting process. But the project has to be viable. With rising costs, we need to figure out how we can get it finished. 

Is the City of Vancouver trying to incentivize building rentals?

I think Vancouver is trying to incentivize building rental projects. They have some programs but it doesn’t help us bring the units to market at the speed that we need them. No developer is asking for handouts. We’re just asking for a clear path forward and the path of least resistance. 

With the Charles and Nanaimo project, it’s zoned as a rental but we could do it as a condo. If we did it as a condo, it would most likely be purchased by investors who would rent out the units. But to turn it back into a condo project, we would need to rezone, and there would be the additional CAC cost. 

So there’s a path forward to bring these units to market, but it would take 18 months to rezone. I don’t think we’ll do that, since the timeline is so long. 

Our biggest thing is that there should be no differentiation between the end-user’s experience, regardless of if the unit is a condo or rental. We want our product to be the same. There might be a slightly different finish, but the layout and amenities will be the same. 

With rental, the city provides a DCL waiver, which can be significant. There are some tax incentives. And there are some financing packages through CMHC and BC Housing which help bring costs down. 

Tell us about mass timber.

Mass timber is an amazing product. But you have to start from day one with the intent of going into mass timber. Mass timber is actually classified as non-combustible because the char rates are similar to concrete, but not everyone agrees with that. 

Studies show that people are happier living in mass timber buildings. They like the feeling of living in wood. It’s also better for the environment. 

One challenge is that a mass timber building has to be more box-y, because everything needs to be stacked from the bottom to the top. But it doesn’t have to be a square or rectangle.

Another advantage of mass timber is the speed of construction. We were planning to use pre-manufacturing, building units off-site and then shipping them in. This decreases the disruption and noise pollution in the neighbourhood and helps developers get in and get out. But you need to have everything lined up to make mass timber work. 

It’s actually quite easy to disassemble a mass timber building, since they’re put together with nuts and bolts, rather than needing to bring in a wrecking ball. You could disassemble it and still use the parts for other projects. So it’s more sustainable than a concrete building. 

Sound transfer with mass timber is similar to sound transfer with concrete. Impact is a bit worse, but we have ways to dampen that. 

What happened to your mass timber project at Scotia and 1st? 

We had planned to create a mass timber building at Scotia and 1st, with over 100 units in a 9-storey building, that would also have a parkade and daycare. That area is one people are talking about; it’s really changing. Unfortunately, we’re not doing mass timber anymore.   

The price of wood skyrocketed in the last few years, but then actually came back down recently. So that volatility has made mass timber building challenging. The thing with mass timber is it costs more than concrete, but you save money on the schedule, so it nets out to be the same. But with some of the setbacks the city required, it was increasing the building costs.

Another issue was the bike lane coming off of 2nd when they would be putting in the skytrain station. It didn’t allow for enough room for the trucks and pallets we would be bringing in. That would compromise our schedule. 

Is the City of Vancouver keeping up with new building trends and technologies? 

The city is actually trying to push the envelope technologically. For a project to be viable, the costs need to be in line with the value. No bank will give you money otherwise. We’re going to Step Code 4 shortly and passive houses after that, so it will be a challenge. But everyone wants to step up and meet it. 

We’re looking at products all over the world to help us innovate our projects. But that’s counterintuitive, because you want to use local products and fewer emissions. 

If you could own property in the cities where Cape Group works, what would you buy?

If I had $3 million in Vancouver, I would buy a condo or small apartment building. Anything with passive income is a win. 

In Edmonton, I’d find myself an industrial building. Industrial rates are 75% of what they are in Vancouver but the costs to buy are only a tenth. There are great tenants there. 

In Toronto, I’m still learning the market. But you can’t go wrong with a condo there. The costs are only going to keep going up, which will bring your condo value up. 

Find out more: https://capegroup.ca/

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