A growing number of investors are betting Canada's frothy property market will nosedive, according to research firm Markit, as low energy prices drag down the country's economic outlook.
Investors are taking out an increasing number of "short" positions on banks and insurers with high exposure to the property market, Markit explained, with these investors expecting share prices to slide. This comes amid record low interest rates in the country— which have been cut twice this year, down to 0.5 percent.
Financial groups now account for three of the top 10 shorted stocks in the country, it said.
Home Capital Group — one of Canada's largest financial institutions— currently ranks as the most shorted stock in Canada. Markit measures the short interest in a stock by calculating the amount of shares that are out on loan.
Home Capital Group recently saw an 18 percent share sell-off and the cost to borrow its shares jump 10 percent after second-quarter results showed fewer mortgage starts than expected. Shares on loan now total 31.9 percent, according to Markit.
That's followed closely behind by Canadian Western Bank, which has 54 percent of its $19 billion portfolio in real estate, personal loans and mortgages. About 27.7 percent of its shares are on loan, making it the fourth most shorted stock in the country.
Genworth Mi Canada, which underwrites private residential mortgages, has not only seen its stock slide approximately 22 percent in the last 12 months, but the number of short holdings increased to 19.3 percent, Markit said.
"Short sellers have been trying to call the top of the Canadian property market for some years now, which has proven to be a tricky trade as the continued cheapness of credit has continued to propel local demand and prices," the report, led by Markit analyst Relte Stephen Schutte, said.
But, it seems investors are taking a hint from declining market conditions.
Data from the RBC Purchasing Managers Index (PMI) clocked the sharpest decline in Canadian business conditions in the survey's history in September. Weak demand and stagnating exports helped send the PMI reading to a 5-year low of 48.6 — with any reading below 50 indicating a contraction.
Furthermore, with oil prices widely forecast to stay lower for longer, it's likely there could be further pain heaped on an economy which Markit estimates has a 20 percent structural exposure to energy markets. Canada's economy technically entered recession after clocking two quarters of economic contraction in the first half of 2015.
Meanwhile, property prices have continued to soar across the country, particularly in cities like Toronto and Vancouver. The latter was earlier this year dubbed one of the most expensive markets in the world in a housing survey by The Economist. It claimed Vancouver property was overvalued by 89 percent.
The Bank of Canada itself says it was concerned about overvaluation in its June Financial System Review. It said prices were outpacing income, and that the bank's models saw national house prices overvalued anywhere from 10 to 30 percent.
There is a chance, Markit suggests, that short sellers could see their property market bets foiled, especially if the central bank looks to counter the worsening economic outlook through further interest rate cuts.
"However, after Canada recently cut interest rates in July to 0.5 percent, there is not much maneuverability left to cushion a collapse in the housing market," the report explains.