Entries from May 2009 ↓

Headlines you couldn’t have imagined six months ago:

GM hits bankruptcy!

Canada lays $50 billion egg!

Bidding wars in Toronto!

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My last post covered the salient points of why the real estate decline is not, as you are being told, kaput. Yeah, I know this runs counter to public opinion and observed facts. I know realtors and realtors disguised as not-realtors have made comments here that a crush of newbie buyers in recent weeks is proof housing’s on a roll again. That would mean, in their world, homes will continue to rise in value without end.

This is scaring the crap out of people who lust for houses. Like Rick.

Garth what is going on in this housing market? Been holding off buying a home for the past three years in the GTA as average home prices do not match average incomes. Been fighting with the wife as she wanted to buy in years ago and now it seems we will never get that chance. People are losing their jobs, companies are shutting down and/or going bankrupt (Chrysler,GM) . Working hours/days have been cut for many and even wages have been cut. I’ve seen people who really have no business buying into this market are jumping head first. Is the economy in a bust or a boom? I’m losing my mind here and I need some understanding on what is happening. Don’t know what to tell my wife now as this madness doesn’t want to end. Feel lost and really down.

Okay, Rick, pour her a drink and come over here and talk to me. Mano-a-mano, dude.

You are absolutely right on both counts – all around us are signs the economy is in tough shape, job loss is mounting, corporate profits have evaporated and people’s finances suck. But at the same time, cheap interest rates and media hype have convinced lots of folks it’s the time to buy. Why? Because, like you, they fear if they don’t do it now, they’ll never own a home since prices are going sonic.

You ask if the economy’s in boom or bust. Are you serious? We’ve lost over 200,000 jobs this year and more than 640,000 people are on the dole. The car business is moribund and our manufacturing sector is on life support. The country’s finances are disintegrating faster than anyone could imagined, while personal debt has ballooned. Nobody’s hiring and salaries are going down. How can that be a boom?

The only “evidence” you or anyone else has seen of a rebounding economy is in the real estate market, where the lowest rates ever have increased affordability, started a minor stampede of buyers, and created a group delusion. Those cheap loans have done exactly what politicians hoped they would – slap lipstick on a pig, and make you horny.

Face it, Ricardo, the only reason you’d ever want to buy a house in the middle of a recession (which is where we are), is because it’s so cheap you cannot resist. That’s what’s happening in California, Nevada and Florida, where homes are 50% to 70% less costly than they were in 2005. In fact, the average house price across all of the US is now at 2002 levels. So, some smart vultures are doing what you’d expect.

But in Canada, prices are little changed yet from their bubblicious levels of late 2007. Sellers are still greedy. Realtors still cocky. And now they’re being supported by the media (desperate for a recovery to save its own butt ) and government (terrified of a deflationary spiral). So, guys like you have trouble seeing through the makeup to the porker underneath.

Hey, do what you want, dude. But be aware there are major dangers to a home buy in 2009.

These interest rates have only one direction in which to go, while most incomes continue to fall. Not a good combo. Runaway government deficits mean higher taxes in the years to come. The recovery, when it does come, will probably be called a ‘jobless’ one –since it will take years for corporate profits and expansion plans to return. And nobody, as far as I can see, has done anything about reducing the debt which got us into this mess. In fact, this little housing orgy is just padding it.

Add it all up, and I’d say houses should be significantly cheaper in two years than they are now. So, if you listen to your wife and buy, you could be blessed with rising mortgage payments and falling equity.

But at least you’ll stop fighting. Forever.

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In the news

Fat deficit equals years of tax hikes, austerity

US mortgage default rate hits a record

Ever been to Leaside? Some wonk paid $160,000 over asking for a place there last week, I heard.

The mid-Toronto neighbourhood is populated with 1930s-style brick houses without garages built on lots the width of two cars situated on streets with plumbing problems. A couple of blocks away is a huge industrial area where munitions were made during WW2. The dirt was so toxic it had to be hauled away before big box stores could be built. And a good chunk of Leaside’s finest street was once a garbage dump.

But hey, it’s desirable. Upscale. Expensive. Most listings are now north of a million and, local realtors tell me, they’re in hot demand.

Welcome to the parallel universe. As I have been detailing lately, the greatest fools in real estate are not those who bought at the height of the bubble in late 2007, they are the ones buying now, at the pinnacle of denial.

Let me give you a few more reasons why this is going to end badly. You can add them to relentlessly rising interest rates, the demographic tsunami, chronic unemployment, destruction of the national manufacturing base, inevitable tax increases and an energy price crunch.

Canadian household debt has red-lined. The country’s accountants have just warned that families now owe $1.3 trillion, most personal debt on credit cards and LOCs. Sadly, 85% of us have unpaid credit card bills. Worse, a third of all families could not handle an unexpected $5,000 expense. Even worse, one in ten families could not pay a $500 bill.

Two points: First, it seems almost nothing was learned by anyone in the near-death experience of last autumn. All the reasons we rushed headlong into a credit disaster are still there. Second, how are we going to have any kind of sustainable real estate recovery (especially when rates start rising again), when so many consumers are tapped out?

Meanwhile, corporate profits are non-existent, meaning any recovery will be essentially jobless. Look at BMO. Earnings down more than 40%, and 1,100 people being laid off. As I said days ago, consider GM dealerships, where 14,000 people are facing a black hole. GM,  by the way, will be bankrupt by Monday. And this week we heard of record numbers of Canadian collecting pogey last month.

The news Stateside just darkens. Home prices in the latest Shiller-Case report, out Tuesday, were down a withering 19% – the greatest drop ever. This signals the bottom has not even been hit yet, after more than four years of meltdown. Said economist Robert Shiller: “There are very few V-shaped recoveries in the history of real estate, and this one is likely to be even slower…”

More troubling is the next wave of mortgage defaults, the “options ARMs” – variable rate loans which allow buyers to pay less than they owe, with the remainder added to the principal. After a time, the loans are reset to reflect the increased debt, plus higher interest rates. It means for many people monthly payments could double even as the value of their properties has plunged. Yeah. More foreclosures.

BTW, there are $314 billion in option ARM mortgages coming up for reset in the next two years. It’s estimated that as the mortgages are adjusted, most homeowners who have then will have negative equity equalling 20% to 40% of the home’s value.

Meanwhile, as you know, Canada’s finance minister has admitted the annual deficit will be more than $50 billion. Three years ago the budget was in surplus by $15 billion.

So, arrive at your own conclusions.

These are mine:

* The current real estate buzz will destroy the wealth of those now buying, especially in multi-offer situations.

* Current first-time buyers will face a double threat of rising mortgage rates and collapsing values over the next two to five years. They will truly wonder why they took such a gamble and how helicopter parents, friends and ‘experts’ could have been so wrong.

* In two years there will be virtually no move-up buyers. High-end houses will be nailed. Bye-bye Leaside.

* Houses in Canada are essentially over-valued and will correct sharply. Given our foundation of debt, the bottomless pit of US property values, unemployment, stagnant incomes and deteriorating national finances, the lunacy of paying current prices will soon be apparent.

* And as all of the above comes together in the next dozen or two months, supply will swamp demand.

Those shelling out full price in the Spring of 09 will look as equity cowboys did in the Spring of 30.

98 Dewhurst Blvd, Toronto (Danforth Ave. & Subway)  Listing here

Listed price: $549,000 SOLD: $715,000

Days on market: 4       Offers submitted: 23

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In the news:

Low interest rates attract first-time buyers

News Bulletin

Federal deficit will hit record $50 billion plus

Source: The Canadian Press, May 26 2009

OTTAWA _ Finance Minister Jim Flaherty says the federal deficit will soar to a record $50 billion-plus this fiscal year.

He said the recession has hurt government revenues from personal and corporate taxes and raised spending requirements.

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Michael Wilson always kept an envelope in his suit jacket. And a gold pen. The finance minister of Canada would pull them out when he had an important point to make.

“Here,” he said, pushing the envelope my way as we sat in the coffee room beside national caucus one morning. “Look at this. It’s why we’re screwed.” On the paper was a big circle with a sizeable chunk scrawled out, and the number 32. The circle, he explained, was federal government expenditures, and the piece out of it represented interest payments on the debt. They amounted to 32 cents of every dollar the government spent.

“This is why we’re doing it.” Wilson said. “There is no other way out.”

That conversation took place almost 20 years ago. The federal deficit had just hit an unprecedented and shocking $40 billion. And Wilson had convinced the prime minister he had but one weapon capable of smashing a financial death spiral. The GST.

Fast forward to 2006, and the national sales tax is more than a dozen years old. Liberals decided to keep the hated tax when they formed government, and now the deficit is gone. In fact, budgets have been balanced for a few years – and now the incoming Conservative government will inherit a $15 billion surplus. Over the next two years, the GST rate will be dropped by almost a third.

Finally, a sunny May afternoon in 2009. The finance minister stands in front of reporters and says the government is about to run a deficit once again – a “substantially larger” bomb than the one forecast 100 days earlier. More, to be sure, than $40 billion.

Politics aside, this represents the most rapid and intense deterioration of national finances in the country’s history. The swing of more than $50 billion a year came partly through tax cuts some economists called reckless, partly because of big jumps in program spending and partly as a result of the global economic meltdown.

There will be plenty of blame to throw around, so let’s just look at the consequences.

* Interest rates will rise. Count on it. Deficit-plagued governments have to borrow heaps of cash to carry on. This money is typically raised on bond markets, where more competition for funds equals higher yields, resulting in costlier mortgages, bank loans and business borrowings.

* Taxes will increase. Annual deficits are added to the debt, on which interest has to be paid. As rates rise, so do debt payments – which is what caused Mike Wilson to see one third of government spending obliterated. The only ways out are big spending cuts (hard to do in a recession),or higher taxes for years to come.

* The economy will slow further. Higher rates and more taxes make the country less competitive – hardly what our decimated manufacturing sector needs. They’re also inflationary, bad news with oil prices starting to shoot skyward.

* Most real estate will stagnate. These factors all but guarantee a multi-year mess for housing. The only reasons we have a mini-boom in some markets now – cheap rates and green shoots – will be gone.

* The boomers are screwed. Just as the age wave is trying to unload its trophy real estate, you can expect a retirement crisis since most of these folks are house-rich and cash-poor. Even Ontario’s finance minister is warning of a “deep depression” in 10 to 15 years as millions of retirees just run out of cash. Sadly, this will happen when debt-laced governments are unable to offer income support, or even properly fund the health care system, soon to be overwhelmed.

Deficits are a tax on tomorrow, so if you think today sucks, just wait.

Of course, government over-spending will succeed in preventing a depression, a collapse in the financial system and social breakdown. But the price to pay is truly Faustian.

For Garth’s latest podcast, click here.