Nothing to Fear, They Say

According to this article, CIBC thinks the huge amount of household debt in Canada and the beginning cracks in the housing bubble are nothing to worry about. The main reason for this benign assessment seems to be that there have been a few other credit and real estate bubbles in the world that have grown even bigger than the US one before it burst. What a relief.

 

„The news out of Canada's real estate market isn't good, but the country will avoid a U.S.-style real estate meltdown, CIBC said Tuesday.

Economist Benjamin Tal said in a report that even recently released data about high levels of Canadian consumer debt isn't proof that there will be a sudden, big drop in home prices.

"To be sure, house prices in Canada will probably fall in the coming year or two, but any comparison to the American market of 2006 reflects deep misunderstanding of the credit landscapes of the pre-crash environment in the U.S. and today's Canadian market," he wrote.

Tal noted that Canada's debt-to-income ratio has just broken the U.S. record set in 2006, but said other countries have had even higher levels without a crash.

[…]

Tal said home prices in large cities like Vancouver and Toronto are overshooting their fundamentals and will likely slip as sales fall.

"But the Canada of today is very different than a pre-recession U.S., namely as far as borrower profiles are concerned," he wrote.

"Therefore, when it comes to jitters regarding a U.S.-type meltdown here at home, the only thing we have to fear is fear itself."

 

(emphasis added)

To sum this up: there have been bigger bubbles, so ours can grow bigger too. Moreover, it is different this time.

It is actually fairly typical to find this type of thinking near the top of a bubble. The people living inside it cannot believe that it could possibly crash. Of course Canada's economic situation is in many respects 'different' from the US economic situation, but that is the case with every slice of economic history. Not one of them can possibly be exactly the same. Nevertheless, one can come to some general conclusions about credit expansion-induced bubbles. Economic laws will be operative whether or not the precise historical circumstances are similar. When Japan reached the height of its bubble in the late 1980's, it was also widely argued that the overvaluation of stocks and real estate was no reason to worry because Japan was allegedly 'different'.

Regarding borrower profiles, Mr. Tal is mistaken if he thinks that the current  profiles of borrowers are actually relevant. These profiles always look good at the height of a boom. They deteriorate only after the boom ends. To wit, here is a chart of the history of US household credit scores:

 


 

During the US housing bubble, even while capital was malinvested and consumed and the actual creditworthiness of borrowers constantly declined, 'credit scores' got better and better. The error was only revealed after the boom began to fall apart – click for better resolution.

 


 

Canadian household debt as a percentage of income by now vastly exceeds the peak that was seen at the height of the US real estate bubble. So in this sense, Canada is also 'different' – only not in a particularly good way. Note that the chart below actually understates the true level of the Canadian debt-to-income ratio by a full 11 percentage points. It does not yet reflect the most recent revision to the numbers (i.e., the ratio is really at 163%).

 


 

Two credit bubbles compared side by side: US and Canadian household debt as a percentage of disposable income. The green line should actually be at 163% – click for better resolution.

 


 

The 'Soft Landing' Mantra

Canada's housing market has begun to cool markedly. As is usually the case, the first sign of trouble is a sharp drop-off in transaction volumes. Existing home sales in Canada were down by 15.1% in September year-on-year. This seems to be the result measures recently introduced by the government that are aimed at slowing down or reversing house price increases. Prices will no doubt eventually follow transaction volumes.

The WSJ reports on the cooling of the previously red-hot Vancouver market. What is so funny about this report is that government officials are patting themselves on the back for having produced this cooling without realizing that the measures are coming way too late. Yes, they may well lead to a bursting of the bubble, but the hopes for a 'soft landing' are very likely misguided.

 

“Canada's finance ministry tightened home-lending requirements, the latest in a series of moves the government has taken to tighten credit amid the real-estate boom. Recently, a number of economists and policy makers, including the country's central-bank chief, have warned about possible overheating in several Canadian markets, notably in the Vancouver and Toronto condo markets.

This summer, Ottawa cut the maximum mortgage amortization period from 30 years to 25 and reduced the amount of home equity Canadians can borrow against, from 85% to 80%. This month, Finance Minister Jim Flaherty said that the new mortgage-financing rules are beginning to have "some effect," as activity in the housing market has cooled in both Vancouver and Toronto.

"We think that's a good thing," Mr. Flaherty told reporters. "I would much rather have a soft landing than a hard landing."

 

(emphasis added)

This is a good example for what is known as a 'non sequitur'. The credit tightening measures are beginning to bite, but it does not at all follow from this that a 'soft landing' will result.

The 'soft landing' mantra is invoked at every opportunity, as if repeating it often enough will make it true. Consider the conclusion of this article on Canada's growing household and mortgage debt burden in the Vancouver Sun:


Ottawa has moved four times in as many years to tighten mortgage rules to keep marginal buyers out of the market, most recently in August.

The latest change, which added to monthly payments on insured, first-time purchases, has been partially credited with a recent slowing in home resales, particularly in previously hot markets of Vancouver and Toronto, and with a moderation in prices.

New data released Monday by the Canadian Real Estate Association showed sales of existing homes fell 15.1 per cent in September from a year ago, although last month’s numbers were slightly higher than in August.

Bank of Montreal economist Doug Porter said he believes the trend points to a soft landing for housing, not a crash.”

 

(emphasis added)

One is tempted to ask: what exactly is it about the 'trend' that 'points to a soft landing'? It sounds more like wishful thinking than a conclusion justified by the evidence.

 


 

House prices compared to rents in Vancouver. To say that prices are out of whack with  rental returns would be sugar-coating it. This is, in a word, insane. Sales in Vancouver have meanwhile plunged by 32.5% from year ago levels – click for better resolution.

 


 

The divergence between prices and rents is far less extreme in Toronto, but it is still obvious that prices are now way above trend – click for better resolution.

 


 

Are the Banks Safe?

It is generally held that Canada's banking system is in ruddy health and not in danger from the extended credit and real estate bubble, mainly because a government-owned organization, Canadian Mortgage Housing Corp. (CMHC)  insures most of the mortgages with down payments of 20% or less. The company also helps fund mortgages by issuing debt and buying mortgage backed securities with the proceeds. 

This kind of thinking has things exactly the wrong way around. It is precisely because such a state-owned guarantor of mortgages exists that the vaunted lending standards of Canada's banks have increasingly gone out of the window as the bubble has grown. Today some $500 billion, or 50% of Canada's outstanding mortgages are considered 'high risk' according to the Financial Post. Moreover, HELOCs ('home equity lines of credit', i.e., the use of homes as ATMs) have grown like wildfire, at loan-to-value rates of up to 80%.

Through CMHC and government guarantees for privately held mortgage insurers Genworth Capital and Canada Guarantee, Canadian tax payers are on the hook for more than C$1 trillion in mortgages. In other words, there is no practical difference to the role played by the once nominally private GSE's and credit insurers in the US and the Canadian version of them: in both instances these institutions have enabled vast growth in ever more risky lending, while ultimately tax payers are picking up the tab when things go wrong – as they invariably must. In this sense the banking system is 'safe' – the government has already committed tax payer resources beforehand to bail out the mortgage credit market in the event of trouble. However, mortgage debt is only a part of the household debtberg. It stands to reason that the end of the boom will create a lot of economic pain and the banks won't be able to evade it. Moody's has recently put the biggest Canadian banks on 'downgrade watch' for precisely this reason. Of course Canada's economic situation depends greatly on commodity prices, especially the price of crude oil. Similar to Australia, Canada is thus to some extent a 'warrant'  on China.

Lastly, the official house price data – as scary as they look, especially in Vancouver's case – don't really capture the sheer insanity of the bubble. To get a sense of what the bubble has wrought, one should take a look at the following web pages. They compare actual 'crack shacks' with Vancouver homes that have been sold at incredibly high prices, but can otherwise hardly be differentiated from the former.

Crack Shack or Mansion?

Crack Shack or Mansion, Part two

 

 

 

Charts by: Financial Post, McLeans


 
 

 
 

Dear Readers!

You may have noticed that our so-called “semiannual” funding drive, which started sometime in the summer if memory serves, has seamlessly segued into the winter. In fact, the year is almost over! We assure you this is not merely evidence of our chutzpa; rather, it is indicative of the fact that ad income still needs to be supplemented in order to support upkeep of the site. Naturally, the traditional benefits that can be spontaneously triggered by donations to this site remain operative regardless of the season - ranging from a boost to general well-being/happiness (inter alia featuring improved sleep & appetite), children including you in their songs, up to the likely allotment of privileges in the afterlife, etc., etc., but the Christmas season is probably an especially propitious time to cross our palms with silver. A special thank you to all readers who have already chipped in, your generosity is greatly appreciated. Regardless of that, we are honored by everybody's readership and hope we have managed to add a little value to your life.

   

Bitcoin address: 1DRkVzUmkGaz9xAP81us86zzxh5VMEhNke

   
 

One Response to “Is Canada’s Housing Bubble ‘Different’?”

  • hettygreen:

    A financially savvy (and very conservative) acquaintance old enough to be my father (and I have grown children) remembers his father buying $5,000 houses in Windsor, Ontario during the last ‘balance sheet recession’ at a 90% discount…

    While history may not repeat it tends to rhyme. A price decline of 90% may seem absurd to anyone with a recently acquired mortgage (last five or six years) but a 20% decline which appears baked in, is going to seem like Armageddon to these newly minted debt slaves especially when, not if, the employment picture darkens.

Your comment:

You must be logged in to post a comment.

Most read in the last 20 days:

  • Canada: Risks of a Parliamentary Democracy
      A Vulnerable System Parliamentary democracy is vulnerable to the extremely dangerous possibility that someone with very little voter support can rise to the top layer of government. All one apparently has to do is to be enough of a populist to get elected by ghetto dwellers.   Economist and philosopher Hans-Hermann Hoppe dissects democracy in his book Democracy, the God that Failed, which shines a light on the system's grave deficiencies with respect to guarding liberty. As...
  • Federal Reserve President Kashkari’s Masterful Distractions
      The True Believer How is it that seemingly intelligent people, of apparent sound mind and rational thought, can stray so far off the beam?  How come there are certain professions that reward their practitioners for their failures? The central banking and monetary policy vocation rings the bell on both accounts.  Today we offer a brief case study in this regard.   Minneapolis Fed president Neel Kashkari attacking a block of wood with great zeal. [PT] Photo credit: Linda Davidson...
  • Thoughtful Disagreement with Ted Butler
      Too Big to Fail?   Dear Mr. Butler, in your article of 2 October, entitled Thoughtful Disagreement, you say:   “Someone will come up with the thoughtful disagreement that makes the body of my premise invalid or the price of silver will validate the premise by exploding.”   Ted Butler – we first became aware of Mr. Butler in 1998, and as far as we know, he has been making the bullish case for silver ever since. Back in the late 90s this was actually a...
  • On the Marc Faber Controversy
      Il n'y a rien à défendre - by Vidocq   Dr. Marc Faber, author of the Gloom, Boom and Doom Report Photo credit: Michael Wildi / RDB     Il n'y a rien à défendre - There is nothing to defend Personne n'a lu ce qui a été écrit. - Nobody read what was written. Personne n'a pensé avant d'agir, comme la plupart des gens de nos jours. - No one thought before acting, like most people nowadays. L'homme que tu pends est l'homme que tu as fait, pas l'homme que...
  • Donald Trump: Warmonger-in-Chief
      Cryptic Pronouncements If a world conflagration, God forbid, should break out during the Trump Administration, its genesis will not be too hard to discover: the thin-skinned, immature, shallow, doofus who currently resides in the Oval Office!   The commander-in-chief - a potential source of radiation?   This past week, the Donald has continued his bellicose talk with both veiled and explicit threats against purported American adversaries throughout the world.  In...
  • The Donald Can’t Stop It
      Divine Powers The Dow’s march onward and upward toward 30,000 continues without a pause.  New all-time highs are notched practically every day.  Despite Thursday’s 31-point pullback, the Dow is up over 15.5 percent year-to-date.  What a remarkable time to be alive.   The DJIA keeps surging... but it is running on fumes (US money supply growth is disappearing rapidly). The president loves this and has decided to “own” the market by gushing about its record run. During...
  • Precious Metals Supply and Demand Report
      Fat-Boy Waves The prices of the metals dropped $17 and $0.35, and the gold-silver ratio rose to 77.  A look at the chart of either metal shows that a downtrend in prices (i.e. uptrend in the dollar) that began in mid-April reversed in mid-July. Then the prices began rising (i.e. dollar began falling). But that move ended September 8.   Stars of the most popular global market sitcoms, widely suspected of being “gold wave-makers”. From left to right: Auntie Janet...
  • 1987, 1997, 2007... Just How Crash-Prone are Years Ending in 7?
      Bad Reputation Years ending in 7, such as the current year 2017, have a bad reputation among stock market participants. Large price declines tend to occur quite frequently in these years.   Sliding down the steep slope of the cursed year. [PT]   Just think of 1987, the year in which the largest one-day decline in the US stock market in history took place:  the Dow Jones Industrial Average plunged by 22.61 percent in a single trading day. Or recall the year 2007,...
  • Stocks Up and Yields Down – Precious Metals Supply & Demand
      Where the Good Things Go Many gold bugs make an implicit assumption. Gold is good, therefore it will go up. This is tempting but wrong (ignoring that gold does not go anywhere, it’s the dollar that goes down). One error is in thinking that now you have discovered a truth, everyone else will see it quickly. And there is a subtler error. The error is to think good things must go up. Sometimes they do, but why?   Since putting in a secular low at the turn of the millennium,...
  • Tales From a Late Stage Bull Market
      Pro-Growth Occurrences An endearing quality of a late stage bull market is that it expands the universe of what’s possible.  Somehow, rising stock prices make the impossible, possible.  They also push the limits of the normal into the paranormal.   This happens almost every time Bigfoot is in front of a camera. [PT] Cartoon by Gary Larson   Last week, for instance, there was a Bigfoot sighting near Avocado Lake in Fresno County, California.  But it wasn’t just...
  • The 2017 Incrementum Gold Chart Book
      A Big Reference Chart Collection Our friends at Incrementum have created a special treat for gold aficionados, based on the 2017 “In Gold We Trust Report”. Not everybody has the time to read a 160 page report, even if it would be quite worthwhile to do so. As we always mention when it is published, it is a highly useful reference work, even if one doesn't get around to reading all of it (and selective reading is always possible, aided by the table of contents at the...
  • The Falling Productivity of Debt
      Discounting the Present Value of Future Income Last week, we discussed the ongoing fall of dividend, and especially earnings, yields. This Report is not a stock letter, and we make no stock market predictions. We talk about this phenomenon to make a different point. The discount rate has fallen to a very low level indeed.   We add this chart to provide a slightly different perspective to the discussion that follows below (and the question raised at the end of the article)....

Support Acting Man

Top10BestPro
j9TJzzN

Austrian Theory and Investment

Archive

350x200

THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

Realtime Charts

 

Gold in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Gold in EUR:

[Most Recent Quotes from www.kitco.com]

 


 

Silver in USD:

[Most Recent Quotes from www.kitco.com]

 


 

Platinum in USD:

[Most Recent Quotes from www.kitco.com]

 


 

USD - Index:

[Most Recent USD from www.kitco.com]

 

 
Buy Silver Now!
 
Buy Gold Now!
 

Oilprice.com