Entries from March 2010 ↓

Garth to Calgary: Get ready for impact

On a day when all the banks punted mortgage rates, I went to Edmonton. Gave a speech to a packed room of people, and ate in a deserted restaurant. The chef was so lonely he came out to visit, then told me to eat my veggies.

In the Q&A following my talk the inevitable question arose: But what about oil? Don’t rising energy prices make things different in Edmonton, since it’s the gateway to the oil sands?

Of course, they do not. When the price of oil shoots higher, as it will, this doesn’t translate into a salary increase for everybody living in Alberta. A few maybe – like the guy who drove eight hours yesterday to come down from his house near Fort Mac – will benefit. But for most folks here it means the same as families in Toronto – $1.40 gas, higher heating costs and less disposable income.

No, there’s no saving the residential real estate market anywhere. Not in oil country. Not in the GTA. Not on the coast. In fact a financial guy in Vancouver wrote me a long and passionate letter yesterday about why it’s different in the Lower Mainland. The usual. Immigration, a post-Olympic gush of foreign capital, population growth, pent-up demand from condo-captive GenXers. Yadda, yadda.

Everywhere I travel, it’s the same story. It’s different in Halifax (military presence). Different in Ottawa (government). Different in Toronto (migration). Different in Saskatoon (potash). Different in Alberta (oil). Different in BC (delusion). And while each market is unique, we’ve entered that time in which regional characteristics simply don’t matter any more. The tide’s turned.

My conviction that we are in a false economy is growing ever stronger. The recovery is basically jobless, while debt quickly becomes the defining feature of homeowners, families and governments. Taxes and inflation will rise sharply over the next few years. Interest rates have already started their ascent. There is no sustainable foundation for annual growth of 5%, especially when our major trading partner is stumbling. That God she gave us a motherlode of tradable commodities, for without that we’d be Greece.

But the overriding reason this market is entering on the backside slide will be a change in investor sentiment. Being herd animals, we tend to bob and weave with the pack. Mainstream opinion breeds more of it, whipped along by the ‘experts’ and the MSM that creates them. People believe things because other people believe them. And the contrarians stand on the ridge, looking down at the herd thundering mercilessly toward danger, shaking their heads.

In the last 24 hours, however, change is with us. Suddenly the media is full of bleak comments about the demise of the housing market. The same dinglenuts who six months ago were telling us why Canada would never replicate the American housing mess are now calling one mortgage rate increase the end of days.

Of course, it isn’t. But it matters. The first shoe has dropped. The BoC drops the next June first. Then the HST July first. Then the growing realization the economy is a swamp. And after that, media stories about negative equity, squished flippers and poor virginal first-timers with unrepayable debt.

That’s the point at which prices melt and the long adjustment really begins.

This is a good thing. Trust me. Just try to ignore the wailing.

Garth does Cowtown. Wed @ 7. Airport Radisson.

The bond gods leaned over Monday and hurled a bolt. As the smoke cleared, my email was lighting up. “Talk about skipping baby steps of quarter-points,” a worried VRM borrowed gushed, “Are they going to drop another big bomb come June/July when the BOC hikes rates? Yikes.”

As you know, today mortgage rates are higher. Led by the Royal and TD, costs are rising by a fifth to more than a half a point, taking a five-year loan to 5.85%. It was a surprise to most people – at least those who don’t read this blog or listen to Mark Carney, guv of the bank of Canada (who also sups here).

So, why is this happening? What comes next? What should you do about it?

Interest rates will be rising for the next few years. The only story is how fast. Since last winter we’ve had emergency levels of interest designed to drug you into a borrowing stupor, make you lust for material pleasures then wake up the parent of a granite-and-stainless dependent. Funny where horny gets you these days.

In other words, cheap money was a deliberate economic policy to encourage consumer indebtedness and spending, and make you forget about recession, unemployment, deficits, inflation and taxes. And it worked. We got a housing bubble. While inflation was nothing, houses increased in price by 20% and sales spiked 70%. Mortgage debt is now at a record level, household debt exceeds that in the US and incomes have flatlined. You can hear the giggles in Ottawa from here.

Rates will continue to rise because (a) inflation has been rekindled, (b) the monetary authorities are worried the bubble will burst if it’s not first deflated, (c) indebted governments will be flooding the bond market and (d) we overdid it. Consumer debt is now a threat.

How much will rates rise? Well, the central bank has not even moved yet – that is scheduled to happen in July, but it could take place weeks sooner. The prime rate of 2.25% – on which variable rate mortgages are based – could well be 1% higher by Christmas, or maybe even 1.25%. That will add exactly this amount to all variable rate mortgages, so you can kiss the days of 2% home loans goodbye. They will not return in this lifetime.

Next year, more increases. Eventually the prime rate will double (I told you that months ago), and then travel a bit north of that by some time in 2011. This will cause rape & plunder in the housing market, while not being enough to make a difference to savers with their brain-dead GICs.

In fact, the housing bubble’s now officially dead. It may takes months for this to be reflected in prices, but there’s no longer any fog on the mirror.

This also shouldn’t surprise anyone. We’re in a jobless recovery with no income growth, rising debts, incompetent bankrupt governments, tapped-out borrowers, average houses average people can’t afford, the looming HST and a society in which the MSM, the mortgage lenders and the house-humping real estate industry willfully created buying panic. The next stop will also be no surprise: negative equity.

But the big question I was asked today: what should you do about your mortgage?

The bankers will be on the phone to you soon ‘suggesting’ you lock in, ‘for your own protection.’ Have none of it, if you are in a cheap VRM. We know why the lenders are saying that, since they count on scores of people now rushing in to voluntarily increase their payments. Once again, they play the emotional card, consistently suggesting actions counter to the best interests of Canadians.

A prime-minus VRM is a gift. Keep it. The Bank of Canada rate would have to soar by more than 200 basis points (2%) by Christmas for you even to consider locking in. And even then you would be saving money staying variable. In fact, the typical prime minus one half borrower would be better off staying put until the prime mushroomed almost 4% above current levels. You’d still be paying less a month.

And a prime rate of 6.25% is not going to happen for two, three or perhaps four years. Any sooner and you could mop up the economy with a Swiffer.

Finally, what can we expect for real estate now?

I answered that a few days ago. The market’s already entering a correction. Prices will slowly start to turn, and averages will be lower by the end of the year. The bubble markets – Vancouver, Calgary, Toronto – are where the most heartache will befall the speculators, the casual condo flippers and the newbies with their 5% sacrifice.

In the next few days, the MSM and its talking heads will tell you to expect a ‘more balanced’ market as a result of this even, and that price increases ‘will flatten.’ They wish.

Over the last five years we’ve all been given a very clear, precise and close view of what happens when a middle-class North American real estate bubble deflates.

I hope you were watching.

Garth In Edmonton, Tues @ 7. Delta South.

Let’s say it’s late 2007 and you’re smitten.

The local real estate market’s humming. Prices are soaring and wealth effect’s in the air. Despite the meltdown in US housing prices, you know it’s different here. Why else would the feds have recently legalized 0% down and 40-year mortgages? If you want a condo and have no money, CMHC’s your bud.

You buy a unit in an elegant new development soon to be built. On a condo worth $420,000 you plunk down a little less than 5%  – twenty grand. Mortgage financing is approved, including 95% mortgage insurance from the Crown Corp. Ka-ching.

Flash forward to 2010. The building’s up and the condo’s ready. But the pre-closing appraisal shows it’s now worth $335,000, not $420,000. CMHC chokes, saying it will approve a mortgage of $313,000, not four hundred. You have to fork over close to $90,000 in extra cash to do the deal, plus final costs for a closing day surprise of $100,000.

This means you’ll have $120,000 cash into a condo with a $313,000 mortgage, which is worth $335,000.  The instant loss: $98,000.

What would you do?

Well, Danny Cote told Calgary’s London at Heritage Station development to stuff it. In response, the condo floggers are suing him for his deposit plus the difference between what he agreed to pay and what the condo is now worth, or $105,000. Even if Danny wins the case, litigation will cost at least twenty large, which means he ends up with no condo and no deposit.

Sadly, though, he won’t win. It’s contract law. It’s simple. And it’s a lesson “a significant number” of other buyers in this oddly-named 369-unit building are also destined to learn.

This story made the local CTV news the other night in Calgary, just as the Toronto CTV station was reporting people had camped out for as long as two weeks to buy into a new condo/townhouse development in atmospheric Mississauga. Both of these events should be taken as harbingers of times to come. The delusion of crowds, the wisdom of donkeys etc.

Danny, of course, was a fool.

He bought a home worth the better part of a half million dollars when he didn’t have enough money to purchase a new minivan

He bought from plans in an unbuilt building in a rising market with no escape clause.

He probably didn’t consult with a lawyer before signing the contract. No counsellor worth spit, you see, would allow a forward contract of more than two years in length to be one-sided in favour of the seller.

He believed the experts and the house-humpers. He accepted the endless ascendency of real estate. He believed he, too, could have a dream home of granite and glass with 4.76% down. If this were not Canada, not gleaming Calgary with $140 oil, then could such things be possible?

Well, Danny Disaster, bend over. The world’s about to have its way with you. In this instance, the developer is not to blame. The building was financed and built on the strength of the 369 fools of who signed contracts. Even the mortgage insurance company is blameless. How can you expect it to finance a negative equity mortgage?

No sympathy here, dude. Just empathy.

You’re a poster boy for what-was-I-thinking? And a 3:26 TV clip.