Entries from May 2009 ↓

The greatest fools


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


In the news:

Low interest rates attract first-time buyers

Why is this man smiling?


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.

That’s over $16 billion more than he forecast in January’s federal budget. In that budget, Ottawa estimated it would run deficits for five years and predicted a shortfall of $64 billion over the next two years. On Monday, Flaherty said the deep recession is wreaking havoc on the government treasury and will cause the deficit to balloon “substantially more” than projected.

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


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.


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