Entries from April 2018 ↓

Perfect storm

Real estate sales sliding, listings down, mortgages swelling and FOMO gone. Man, it’s a tough time to own a Royal LePage or Re/Max franchise. Sure, all those agents have to rent their desks monthly but that just keeps the lights on. To make any money, you gotta have sales. And to do that you need market share. For that, you promote.

Days ago the flak team at LePage released “Peak Millennial Affordability media launch,” designed to get MSM coverage. It worked. “A big thank you to all of our spokespeople from across the country for their contributions in providing regional perspectives,” said Sarah Louis Gardner in an internal email from head office. “So far today we have achieved great media coverage.”

Indeed. In just a few hours, stories in 51 newspapers, on 16 radio stations and four national broadcasters. The appetite for real estate news is now insatiable, with most outlets running the release word-for-word (after all, reporters are expensive and they dress badly) – even when the story is negative.

So here’s the news: B20 is Hoovering the kids. The purchasing power for the average peak millennial “dropped by approximately 16.5%, or $40,103, after the introduction of the OSFI stress test.” Just to make the point (and help sales in New Brunswick), LePage pointed out kids can buy a whole house (no mortgage) in Moncton for the same 20% down payment required in the GTA or Van. Yeah, I know. But it’s Moncton.

As mentioned, it’s Moister Week here at GreaterFool. This isn’t to give the Millennials more attention so they feel special (mom already did that), but to underscore a basic tenet of real estate: without entry-level buyers the market croaks. So when a real estate flogging machine like Royal LePage uses this message to get noticed, it’s time to fret a little.

The perfect storm brews. Moisters are at its centre. Everyone will be impacted as he event blows through. Consider the facts:

  • Mortgage rates went up last week, and will soon be rising again. Not trivial hikes either – almost half a point at TD.
  • This is happening as bond markets reflect and anticipate central bank increases. The US 10-year Treasury flirting with 3% for the first time in years, and rising 25% in just a few months tells you where the cost of money is headed.
  • Almost half (47%) of all existing mortgages in Canada come up for renewal this year – almost twice the usual number, thanks to the crappy borrowing decisions and over-buying by people three years ago. Most will be renewing at higher rates and now with B20 in place many cannot shop the market (lest they face a stress test).
  • The economy, says the Bank of Canada, is 50% more sensitive to rising rates than in the past. That’s because we’ve snorfled our way into $2.1 trillion in debt, over 70% of it in mortgages and HELOCs.
  • Total debt payments have risen year/year almost 7% for families. Meanwhile the stress test has made cheaper houses (and condos) cost more and pushed greater numbers of borrowers into the arms of subprime outfits like Firm Capital, where mortgages cost 8.5%.
  • Check out this quote from a Manulife economist in a scary Bloomberg story on the storm: “The economy has never been as levered as it currently is, and the economy is far more interest sensitive than it has been in the past, to a degree that we don’t have certainty over how each interest rate hike is going to affect Canadian consumers. All we know is it’s going to be painful, but how painful isn’t quite clear.”

During a typical spring market in Canada 55% of all real estate buys are done by newbies. These first-time buyers squeeze into the market all leveraged and giggly, allowing former virgins to move up the property ladder using equity and extra debt to buy more house. So removing 16.5% of a peak Millennial’s purchasing power is a big deal. Sellers get less, then have to borrow bigger at increasing rates. Plus, there’s more to come. The odds are currently 93% that the Fed will raise its key rate again in June, with our guys reluctantly following.

Thus, the prediction holds. Correction, then melt. In some areas that’s well underway. In others, it’s coming. In many markets the big trends are being masked by a paucity of listings. When that ends, change comes.

However, it gets worse, kids. The realtors also want to trash your stash.

CREA poohbahs this week begged Parliamentarians to put the brakes on Ottawa’s plans to allow homeowners to have mini grow-ops in their houses. T2 wants to let everyone cultivate up to four marijuana plants, producing a potential 5 kg a year of pot. CREA’s horrified.

“We’ve heard from homeowners and tenants across the country who are worried about living beside grow-ops. What does this do to their home value? Will this increase their rent? How safe will their kids be? Will their quality of life diminish because of the prevalence of drugs in their neighbourhood? These are all concerns that need to be considered before the passing of Bill C-45,” the realtor boss told senators.

Gnarly. But we may have more to worry about.

Moister Week

It’s Moister Week here at GreaterFool! Astonishingly, these little peckers now constitute the largest cohort in Canada. Born between 1981 and 2000 (more or less), Millennials make up about 28% of the population (Boomers = 26%) and comprise 38% of the workforce.

On average (says Environics) Mills earn a household income of $71,000. They’ve delayed marriage and having kids more than any generation in memory, are more urban and have spent vastly longer living with their parents. Some people say this delayed adulthood has made moisters feel like entitled tattooed snowflakes unable to cope with economic reality, who therefore look to Big Government to solve everything. Others just point to the fact houses cost a million, student debt is extreme and you now need a uni degree to be a barista, so what does society expect? Gratitude?

Anyway, despite serious attempts at irritating and insulting them, many moist ones apparently read this blog. They ask me questions.

Hey Garth: I have been reading your blog for the better part of a year now, learning of you from a friend of mines father while trying to pull investment wisdom from him; his lips are tighter then his wallet.. however he did forward me onto you. I am 33 years old, own a condo partially with the bank owning the majority in Langley BC, I have a mortgage of 160k and the “assessment” being around 370k and rented out at 1200 per month. I also have my TFSA maxed out and 70k in the bank. I am working a job that has no pension and planning on changing careers do you think i should sell the inflated condo and invest? What should I do with my 70? My TFSA is all stocks I picked myself… I want to be on a beach asap. Signed, Another Whiny Millennial.

First, the condo. The mortgage costs $800 a month, so with strata fees and property tax you’re just breaking even on a monthly basis – which means the equity is earning nothing and you’re actually losing money. Besides the rental income is 100% taxable and you’re vulnerable to special assessments, increased monthly charges, unexpected vacancy or tenants whose pet pig knocks over the grow-op lights and incinerates the place.

If you’ve made money, cash in your chips, pay the capital gains tax and invest. The BC condo market has been insane lately, now starting the inevitable retrenchment. Affordable places like yours are still in demand, so bail. In terms of investing, dump your stocks since that’s simply adolescent gambling, and put everything into the Moister Portfolio described on this blog. You should be on the beach by age 55. Suck it up.

Now here comes Aaron. By Mill standards, he’s a 1%er.

Hi Garth, I suppose I’m the usual entitled millennial who is enjoying your blog daily. I’ll start by saying the usual appreciation for your wit and constant blog posts – you are an inspiration of conservatism.

I’m 30, newly married and live in the orange province, in the Queens city. We moved back to Victoria following some years in Vancouver and TO. I lucked out and got to keep my job paying U$D so life is good. Now to the ugly….

My problem is simple. My wife wants a house…… she is sick of our 750 sqft rental and has her eyes on kidlets. I’m begging weekly to rent a house even as high as 3k per month and ride this madness out, but alas, I’m 6 months from caving and resigning myself to 10 years of a depressed Victoria market.

My question is simple: do I suck it up and take the plunge? Or, await a correction because it seems peak house is really happening. Are houses really as expensive as I figure? Before you answer, here are the numbers: my wife makes about 50k pre tax, I make 350k/year in biz income and take home about 150k in employment pre-tax. We have 130k in RRSP, 40k in TFSA, and about 200k sloshed away in my corporation.

If I do buy a house, should I put lots down? What about all the cash in my business account? Should I use this for the house? Or invest it? Sometimes I think I’m crazy with my salary not to just buy a 1M dollar house and figure it out….but hey….crazy likes company.

So, great income but barely enough saved to put 20% down on a million-dollar house. If you use the business money you first have to run it through your hands as income, which means jumping into the 53% tax bracket for a year or two. Ouch. Since the Victoria market is as pooched as Van, thanks to Comrade Premier Horgan, maybe your corp should buy the house. That way it could carry the mortgage and write off any capital loss when prices inevitably decline and you get tired of living in one of the planet’s most boring places.

Of course, you’ll have to declare a taxable benefit for your residency roughly equal to rent, but this way you get to give your entitled, demanding spouse a piece of real estate, protect your personal assets, put the corporate money to work (which Bill Morneau will steal, otherwise) and protect yourself from market declines. Plus you get to stay married.

Regi in Calgary is a big saver, wondering if he should become a big borrower:

My wife and I can be described as a couple of DINK’s making a solid effort at achieving early retirement. We save a substantial portion of our take home income and have loaded up our RRSP’s, TFSA’s, and non-registered funds into low cost index funds. Life is good! We currently have zero debt, our townhouse is mortgage free, but we have a HELOC of $300k @ prime that is currently begging to be invested.

My question to you is that my wife and I struggle to determine if these HELOC funds would be best invested in the market with the hope of exceeding the current interest rate, thus putting our house to work! We struggle with the risk/reward proposition, but I feel that if we sold the house and simply rented we would have already invested those funds, so the only issue is the premium associated with paying the bank the current 3.45% premium for the privilege to access these funds.

What are your thoughts on investing HELOC funds into the market? If our timeline is 10 years or longer would it make sense to put these funds to work?

Cowtown is a sickly housing market with lacklustre prospects. There has been no real estate appreciation for a decade, so you’re probably wise to stay living there for the next ten years and hope for improvement, perhaps when BC is invaded. Regarding a HELOC for investment purposes, this can be a great strategy – but one which comes with risk and the need for steady discipline.

Money borrowed from a HELOC and used to fund a portfolio need never be paid back (unless the bank demands it) since you can make interest-only payments which are not amortized. That means 100% of your cash flow is deductible from taxable income as an allowed expense. If you’re in a 40% tax bracket, the cost of the loan drops to just 2%. Ensure you have a properly-structured ETF portfolio positioned to turn out 7% returns over the next decade (if it matches the gains of the last 10 years), and the $300,000 turns into $600,000, while you pay less tax.

But there are risks. Leverage means you lose more if markets drop. Also HELOCs are variable-rate loans, so the cost will probably rise over the years ahead (but so will the size of the interest deduction you claim). Ensure the portfolio is liquid, so you can bail is rates spike (unlikely). Maintain a long-term focus, resisting the urge of selling out if markets swoon for a while (they always recover). And get an advisor. Borrowing to invest shoves you onto a new voyage, where having a steady professional hand on the tiller is wise.

Finally, a fine suck-up from Alex, the prof. I may adopt him.

Dear Mr. Turner, many thanks for the great work you’re doing with your blog. You are now on the recommended list of readings that I give to the master students I supervise. This is just to reassure you that there are some 30-year-olds that still know how to use their brains.

Married couple here (34 and 35) with three kids under 7-year-old. All registered accounts (RSP, TFSA, RESP) are maxed out and we have significant savings in non-registered accounts. No house, no debt, no car. We never inherited from family members and it is only 3 years now that one of us is making significant. We are careful about expenses but we make sure the kids have everything they need, including fun. The beauty of it: my wife received an invitation to do a PhD a couple weeks ago. Money was never an issue and it will have almost no impact on our financial situation whatsoever. We should have a million dollars in net assets by the time I turn 38. Yay for financial independence (and yes, she decided to accept the offer).

Your blog has been quite useful in thinking about investments and stuff but there is also some common sense here. Please tell me that those people you just presented on your blog aren’t real.

Yes, Alex, as real as you. But we will save this generation, one pathetic blog post at a time.