He may be a physicist, and a PhD, but he needs a whack on the head.

Sergey emailed me two days ago looking for financial advice. “What do I do with my TFSA?” he asked. Depends, I said. What’s your gig?

Turns out he makes a bundle, has an $800,000 house with $115,000 left on the mortgage, and this year alone paid the home loan down by $70,000. Other than that, he has $28,000 in an RRSP and ten grand in his tax-free savings account languishing in cash in the DGS.

That’s it, I asked? Yeah. Pension? No. Income? Two hundred. Mortgage rate? Prime minus three-quarters. RRSP? Three stocks. Age? 56.

Of course I told Sergey he was a financial wreck, when he thought he was doing great. Paying off a 2% mortgage when his cash could be earning him three times as much was an idiot move. Putting three stocks in his retirement plan amplified market risk. Sticking high-octane TFSA money in the orange shorts was nuts. And having more than 90% of his net worth in a single asset, now facing steady depreciation, was a massive threat. I mean, how could a guy with 32 years of higher education making two hundred large walk into such a trap?

So he took the honourable way out. Blamed it on his European mom.

“She said real estate was safe.” Yeah, but mothers can be dangerous.

Deflation stalks the land, as anyone selling a house in Edmonton has discovered. Or people who panic bought gold at $1,250 an ounce. Or the last GM workers to file out of their shuttered Windsor plan last night.

Of course, the epicentre lies to the south of us, where the moment of capitulation seems imminent (the best time to invest). This week the US Census said the number of vacant properties (foreclosures, residences for sale, and vacation homes) rose to 18.6 million. House ownership has fallen 66.9%, the lowest since 1999. And new foreclosures will top 1 million this year.

But this deflation is different, since it’s taking place while other prices are rising. In Canada, for example, 16 million people now pay more for virtually everything, thanks to the HST – a tax sure to raise the inflation rate since virtually no businesses are passing on savings from their own reduced tax overhead (duh). In Ontario, the price of electricity is set to rise 16% next week, the first of two jolts raising the cost of power by about a third. Gas is well entrenched at over a dollars a litre, even though the price of crude is half what it was when fuel was $1.50. And governments at all levels are contemplating user fees, while grocery bills and interest rates escalate.

Asset deflation, price inflation. This means what?

Stuff (cars, iPhones, blow-up realtor dolls) will become cheaper. That puts downward pressure on business income and ultimately on wages. It makes people delay buying decisions since what you want will probably cost less in October. To entice you into buying, prices fall more.

Incomes get more stressed. Already coping with record levels of debt, most households now must pay the idiot harmonized sales tax. Property taxes are set to rise, along with energy costs and mortgage rates. All this quells house lust.

Money needs to work harder. Most Canadians have the bulk of their net worth in a home and their savings in a bank vault. Bad combo. Defend yourself by investing, not saving, by growing money in a balanced portfolio instead of hiding it in a penurious GIC.  Earn 7% or so. Take a whizz on the economy.

Housing’s done. At least for a few seasons, perhaps a few years. Take a look at the chart below and note the four-year lag between the US and Canadian markets. If you think the little red line is gone to continue going higher, I have some lovely shoreline in Louisiana for you to invest in. The shrimp boat’s free.

As you might imagine, Sergey now plans to suck off a big whack of his wavering home equity with a HELOC and invest it in a sweet selection of marketable bonds, preferreds and sector ETFs. He’ll earn interest, dividends and capital gains while writing off the interest from his throbbing income. He gets diversified, spreads risk, creates his own pension, fights deflation and defies his mom.

Like every Boomer knows. Never trust anyone over 65.

It may be July. It may be hot. Yet there are those who blow hard on the spent embers of the residential housing market, hoping the flames will reappear.

Two small examples of the delusion that envelopes our society, and more incontrovertible proof real estate may be in for a fiery descent. After all, how can things work out well when you sell houses to people who have no money? Or when a vendor’s naked greed shows the emperor has no clothes?

First we whisk you to the corner of Gerrard and Parliament in downtown Toronto, better known in the day as The Projects, or Regent Park. It was once the site of a monumental public housing mistake which actually replaced a tawdry Depression-era slum. And while the buildings change, social problems remain. But, as the Daniels Group so cleverly knows, if you build it, they will come.

Even if they have only enough cash to buy a loveseat at Ikea.

This highly successful Toronto developer is flogging units in its new condo building here, called One Park West, with a unique program it developed. Of course, it sells units for 5% down, and arranges financing for the other 95%, which is backstopped by the taxpayers who read this toxic blog. And, of course, if you borrow your first mortgage from a lender like TD, you can actually get 4% back in cash – or $10,000 on a $250,000 loan – which means the bank can pay part of your 5% deposit.

But why stop there? This is prudish, buttoned-down Canada where only the creditworthy get to obtain real estate.

So, if you don’t actually have 5% to buy a condo (prices average $400 a square foot), you can buy one for less than the $16,000 needed for a $320,000, 800-sf box. How much less? Well, $3,500 is enough under Daniels’ Gradual Deposit Payment Plan. The rest you pay monthly. Just like Ikea.

But there’s more. If you are over 18, a renter and earn less than $77,900, then you qualify for Daniels’s First Home Boost program. The developer will give anyone with 5% down and extra 10% – “Boost your down payment from 5% to 15% interest and payment free!” – which drops the mortgage to 85% of the purchase price with a small reduction in the monthly. Sound too good to be true?

Well, the ‘boost’ is actually a second mortgage, increasing the overall indebtedness back up to 95%. And it’s not exactly free. If the unit is sold anytime within 20 years, the second mortgage must be paid in full, plus an amount equal to 10% of any gross capital appreciation. So if the $320,000 unit sold for $350,000 in five years (good luck), then the second mortgage of $32,000 would be paid from proceeds, as well as a penalty amount of $3,000. Then from the $285K remaining would come the realty commission of 5% (plus HST) of $16,000, for a net of $269,000.

Did I miss anything? Oh yeah, the 85% mortgage of $272,000. Is this a great country, or what?

To its credit, Daniels says if the unit is sold for a capital loss, the second mortgage will be waived. But as you can see from the above, there are several ways to fleece the lambs.

Now to Bubble City, for an historic moment in time, when we stand back and pay homage to an orgy of self-importance, myopia and wet coast animal spirits which must surely mark the demise of a market gone insane. Or maybe it’s just me. But what would you pay for this bung?

…with this dream kitchen…

…well some greater fool just shelled out $2,165,000 for an unrenovated wood frame house on a cinder block foundation built in 1940. Says the Vancouver realtor: “Water and mountain views, half block from Locarno Beach Park, 4 bedroom bungalow with full basement on prime 60 x 95 freehold lot. Hold it, rent it or build your dream home.”

Or weep. Or giggle. Or give thanks.

Say, do you smell smoke?

Note: I will be speaking in downtown Vancouver on the evening of September 16th. Reserve a seat here. — Garth

On March 8th, 2009, the stock market tumbled to its lowest point since 1997. Investor sentiment was massively negative. The media warned of a New Depression. Canadians mobbed their online accounts to bail out of equity funds.

The next day stocks turned positive, in a one-day rally. That night I wrote here: “The financial markets will lead the assault higher once it appears the absolute bottom is visible. Perhaps that was last week, but more likely it will be six months from now. In any case, Tuesday’s splendour amid the carnage should give you a taste of what’s coming.”

About 150 people commented. None agreed with me. Typical was this statement, “Even a dead cat will bounce if it hits the ground hard enough! Ever hear of a BEAR TRAP?”

Of course, the market would gain 55% by the end of the year, and that week in March proved to be the bottom.

I mention this after an interesting couple of days in which about 400 comments were made here on my assertion to sell Canada, buy America. Somebody with more time on their hands than me can work the numbers, but I’d say 75% of them looked at unloved US housing and saw only fear and danger.

Five months ago I wrote about the virtues of blue chip Canadian preferred shares, then paying a return of 6.25% with 80% less tax than GICs. Grab and lock in the yield, I said, because it won’t last. And it didn’t. Today new investors will get 5.8% – which still beats the pants off anything the nice lady at the bank can seduce you with.  The comments here? Negative, full of fear, caution and misinformation – as they were shortly afterwards when I explained how marketable corporate bonds work, and the fact a new CIBC issue was paying 4.2% – 200% more than the same bank was giving on illiquid GICs.

Of course since then, bond yields have fallen and bond prices have risen as investors fled to quality on European debt woes (now fading). Buyers of those bonds would have received not only their coupons, but also a capital gain – while taking zero risk on a security that always matures at par value.

And consistently I have preached the wisdom of a balanced portfolio – one that includes equities, preferreds, bonds, gold and real estate, only to be trashed by those who argue for 100% bullion, or all housing or nothing but cash, in a GIC or a can under the patio.

My point is not that I have been more right than wrong, but rather that the negativity of some people who come to this swampy blog is overarching. Seems legions of us have no idea how essential diversification is during unpredictable times, or how asset allocation is the greatest determinant of portfolio performance. There is no silver bullet. Not precious metals, housing, cash in the Dutch guy’s shorts or bank stocks.

In fact the absolute best defence when you don’t know what’s coming next is to have exposure to multiple asset classes – a lesson too many learned when the winter of 08-09 decimated their RRSPs stuffed with equity mutual funds, or that legions of new homeowners are about to discover now. Cash in TFSAs, stocks in RRSPs, GICs in non-registered accounts – these are the hallmarks of people who have no idea how to protect themselves from what lies ahead, which includes a tax bulldozer concurrent with asset deflation and price inflation.

But chief among the leading indicators are comments left at GreaterFool.ca.

The stock market will crash. Bond issuers will default. Preferreds will collapse. America will bankrupt. Banks will fall. Gold will ascend. Cash will save. Chaos will emerge.

That must be so much more fun that making 7%, avoiding tax and sleeping nights.

But I wouldn’t know.