Edmonton Housing Bust

Oh my! Papa Bear! Mark Carney!

It’s been quite a week for BoC Governor Mark Carney. He’s been all over the news, and dropping science faster than a theater major! Came out earlier in the week and told Canadians point blank they had too damn much debt and needed to tighten their belts. Given the timing, most Canadians probably think he was making a last ditch audition for the role of the Grinch. I’m sure that was music to the ears of retailers in particular.

For those of us who recognized this was happening years back, it probably doesn’t seem like much. But we need to read between the lines, and remember that for someone in as political a position as his, to come out with such strong words as he did is no small concession. One can only imagine the words being tossed around behind closed doors. After all, this is a bunch who wouldn’t say “shit” if you took one in their $800 Italian loafers. And it is prose like that which so aptly displays why my foray into public relations was a misguided as it was brief.

But enough of the hyperbole, lets take a look at the data and see what Marky-Mark was talkin’ about (and don’t think that’s not a photoshop that is being worked on). The 3Q National Balance Sheet Accounts data was released Monday, and it was ugly. You may recall back in September some dumbasses were speculating that Canadians appetite for debt may finally be waning.

Upon further review… yeah… not so much.

After the debt-to-disposable income ratio apparently dipping in the spring, the preliminary numbers show that was merely an aberration as come summer we were right back on course, and have now eclipsed the 150% mark, coming in at 150.19%. After the ratio took it’s biggest quarter-to-quarter drop ever in 2Q, it took it’s biggest jump ever in Q3. In the twenty years that data has been kept the quarter-to-quarter fluctuation had only eclipsed 3% two times, and just barely… so that our jump this quarter damn near hitting 5% is no small feat (4.82% to be exact).

The debt-to-GDP figure also continues to climb, albeit more gradually. The preliminary 3Q numbers coming in at an all time high of 94.04%. So it doesn’t seem that we’ve maxed out yet. We’ve now surpassed the comparative U.S. figures, as since their housing market went bust they’ve seen their ratios fall off. At the peak down south their debt-to-disposable-income was close to 160% (their calculations are slightly different, so we’re ballparking it).

In any case, we haven’t been heeding the warnings thus far, and Carney has been one of the few the last couple years telling people to reign it in. We’re also starting to hear rumblings again from the big banks, apparently wanting the Feds to tighten mortgage lending rules even more, perhaps even so far as going back to 25 year amortizations and requiring 10% down payments. In this internet blowhards opinion that would be a great move for the government to make, but this is the same bunch that stripped them to the bone in the first place.

Hope everyone is dug out and/or warm and toasty here in the early days of the holiday season. Everyone at work seems to have largely finished their holiday shopping weeks ago, but as still stressed out with just a couple remaining people to buy for. With almost two weeks left I don’t know why, I don’t even start for at least another week. But then again, I’m guy, and at an age and with a group of friends who are more than happy with receiving bottles of alcohol as presents. Who cares about the thought and effort put in when you can get blasted?!

Thought we’d do something a little different today, and take a look at incomes relative to the exchange rate. The Canadian economy in general, and Alberta in particular, rely heavily on our trade relationship with the United States. So as the exchange rate swings, it can have a massive effect on the viability of projects for foreign entities. For most of my life, in other words the early-80′s on, the exchange rate had typically fluctuated between about 65-85 cents on the dollar.

But that changed in 2007, when suddenly the Canadian dollar gained a great deal of strength, and made a big push towards (and even past) par. It feel off a bit in late ’08, but is now back close to par again. So today I figured we could look at how this has effected the cost of doing business in the province for foreign entities, insofar as incomes are concerned.

We know incomes have risen of late in the province, and not just nominally. And we can see this in the graph above with the blue (Edmonton) and yellow (Calgary) lines. Those two are the median family incomes in Canadian dollars, and are inflation adjusted to 2008 dollars. Because income data takes awhile to get processed we don’t have data any more recent than 2008, but that isn’t a big deal for our purposes today.

The gist of what I’m going to point out today comes from the green and red lines (very festive in an unintentional way), and how they have moved relative to the blue and yellow lines. Those (red and green lines) are derived from the same data, but are converted to US dollars. Here we can see that the cost of doing business in the province has appreciated considerably in the last 15 years, in fact it’s practically doubled over the period. And I remind you again, that isn’t just nominally, that is inflation adjusted.

So, if you were wondering why at one time oil hitting $60 was boom times just a few years ago, but now it’s at $90 and we’re just treading water… that’s why. Well, that and natural gas has been the real commodity driver of the economy, and it’s prices are still low. A double whammy figuring in the exchange rate hovering around par. The cost of labour here has exploded for US companies, and it’s not even really the actual salaries as the exchange rate that’s kills them.

Or maybe you disagree? Food for thought anyway, and something to widdle away your working hours with on a Monday.

Here is the latest follow up to Alec Pestov’s paper The Elusive Canadian Housing Bubble. This time around he’s comparing the current conditions, with those that presented themselves during the late 80′s when much of the country experienced a bubble (much like this time, Alberta was a little ahead of the curve, and had ours about a decade earlier). So check it out, and if you have questions or thoughts, fire away in the comments section as Alec sometimes drops by and may even address your queries directly. Have a good weekend guys and gals!

The Elusive Canadian Housing Bubble – Fall 2010 Musings

So, apparently this is my 200th post… okay, actually it’s 201. I was going to write this last week but inspiration never struck, and the sales data came out, so it didn’t happen… but who’s counting anyway?! Its interesting looking back, it’s been almost two years since this blog started and in a lot of ways the market is almost right back to where it was when we began.

Alright, so at the time I was figuring by now we’d be down 20% by now, and obviously we’re not there (yet?!). I’ll be the first to admit my understanding of the market and all its factors has grown by quantum leaps since then… but I actually still think it was a good guesstimate given the information available at the time. Reminds me of the old economist’s adage, if you give a number, don’t give a date… if you give a date, don’t give a number.

If I had known we were just months away from governments the world over collapsing interest rates, I probably would have had a different take. But in a roundabout way it has kind of proven my suspicion of weak market fundamentals to be true. Interest rates are still at all-time lows, yet after the novelty wore off, the housing market just as quickly ceded its gains, inventory surged again, and sales have plummeted.

So, like I said, we’re kind of back where we started. Except now interest rates have absolutely nowhere to go but up. That’s not to say there are not other measures the government could (and might) take to attempt to prop up the market should they so choose… but given the current climate and resistance to further deficits that kind of ties their hands. Beyond that, they need look no further than South of the border to see that when the housing market get overvalued you can throw the kitchen sink at it policy wise and it will do nothing for the market long-term. Regression to the mean is a powerful force.

Truth is I suspect we’re on the cusp of a new paradigm. The age of the house, some GIC’s and a mutual fund isn’t going to cut it anymore. This last 30 years has kind of been the golden age of real estate. Prices have been rising faster than inflation… but I think we may have reached out limit and the clock is ticking.

The conditions that gave us 30 years of gains are about the reverse. Interest rates have been going down virtually the entire time, but they have now hit their absolute bottom. That’s not to say I expect them to start going up soon, but they will eventually. Nothing like what we saw in the early 80′s, but back to 6-7% is a given… and if people aren’t willing to pony up rates are 2-3% below that, it doesn’t paint a pretty picture.

Beyond that, demographics are about to shift radically. The last 30 years have seen the Boomers come of age en masse, all the while fuelling massive economic growth, earning a ton of money and spending it almost as fast. That’s about to change… in the next 30 years this colossal age bracket is going to go from an unprecedented tax contributor, to an unprecedented drain. No more buying bigger and better, they’ll be selling out. Not good news when supply is already outstripping demand.

Buying a house and passive investing isn’t going to cut it the next 30 years when it comes to building wealth. In a few years we may begin to question if it even worked the last 30. Going forward, wealth will only be built through living within ones means, active investing, and eschewing debt if one can’t use it wisely. Fiscal excess will no longer be en vogue… instead fiscal restraint will.

We’re in the dying days of the era of credit, and on the cusp of the era of cash.

The 2nd quarter National Balance Sheet Accounts numbers were released today, and it appears households may finally be starting to rein in their debt levels just a little bit, at least relative to disposable income. We’ve been following the debt-to-disposable-income ratio for awhile now, and in the second quarter we saw a rather dramatic reversal as it dropped 3%, from an all-time high of 148.58%, to 145.57%.

One month obviously doesn’t make a trend (and we can see it often just resumes rising after a down month), but this is the first major downward movement in this measure in years. Beyond that we’ve been wondering why despite the recession we hadn’t seen a hint of levels slowing down as they typically do in such economic circumstances (as as was seen in the numbers in 2000).

Fortunately, or unfortunately, depending on how you want to view it, this drop is not rooted in an actual decrease in debt levels, but rather an increase in disposable income. The Household-debt-per-capita measure jumped by another $800, and now sits at $43,400, and is up over $3,000 from 1Q 2009 when the recession really took hold.

Knowing that, it’s not a surprise the the debt-to-GDP ratio continued to climb… up almost half a point in the quarter to rest at an all-time high of 94.17. Though at least this ratio has more-or-less leveled out in the last year.

So, long story short, we had some good income gains in the second quarter of this year, unfortunately we continue to pile on the debt.

Came across an article a few days ago, that made a very interesting observation… that being, that historically bond yields (which are effectively, interest rates) going back to the 1700′s have fairly reliably followed 60-year cycles.

Within that, the 30 year period of generally declining interest rates we’ve been experiencing is not just not unusual, but actually appears to be rather predictable, and right on schedule. So, I figured this is worth exploring a bit, and without further ado…

Here is the graph displaying (for information on their data compilation/methodology read the article linked to in the first paragraph). We can see that with the exception of a war or two over the centuries, that the pattern is remarkable consistent (obviously give or take a year or two on just when the absolute peaks and troughs are experienced). And we’re looking for a general trend, as there is no such thing as absolutes when it comes to things like these (or it you really want to get philosophical, one could argue there are no absolutes, period… but lets not go there)

Looking at the graph, obviously what stands out, and sets the last 60-year cycle apart is the extremes reached, on both ends. We have never seen this kind of volatility before. Going back to 1950, obviously we’re in the immediate aftermath of World War II… which itself was coming off of The Great Depression… so, the double whammy of stunted economics and political unrest conspired to give us the lowest interest rates in history.

Then we flash forward thirty years, and the runaway inflation of the 70′s and early 80′s. That was eventually slayed by the policies of Paul Volcker to choke off inflation by jacking up interest rates, and we end up reaching heights thought unimaginable before. Even the highs reached during the Mexican War is dwarfed by what happened from ’79 through ’82 (and the time it took to unwind and return to Earth).

From there, obviously there was no where to go but down, but regardless it seems these 30-year periods of interest rates heading one direction is pretty much business as usual as far as these things go… and within that we’re right on schedule to be bottoming out right now.

I suppose this trend my be a bit troubling to those who recently bought into the market, and have 25-35 years of payments ahead of them, as if things go according to Hoyle, they can expect to be paying a bit more every time they come up for renewal… a concept that would seem very foreign to anyone who has bought in the last 25 years.

Of course there is no telling just how much things could increase over that period. Up until the last 60 years, the highs and lows have been much less volatile, and unless one was so unfortunate as to hit the extremes, the swings would typically be within reason.

I wouldn’t expect a return of anything resembling what happened in the late 70′s-early 80′s, but historically speaking we’re very low at the moment, and even what we experienced though much of the last decade have been at the low end, so even just going back to historical norms could eventually put 5-yr fixed rate mortgages back into the 7-8% range… which is a point or two higher than we’ve become accustom to, and three-or-four above what they are currently.

An interesting study was released today by the Canadian Centre for Policy Alternatives regarding the potential unwinding of the housing bubble, not just in Edmonton and Calgary (though, we are featured prominently) but in major markets throughout the nation. Some very interesting reading… and just in case you missed the post last week I’ll post the updated paper from Alec Pestov as well.

So, if you’re looking for a way to waste away the hours at work and they’ve blocked facebook on you, well, you’re welcome!

Canadas Housing Bubble

The Elusive Canadian Housing Bubble – Summer 2010

You guys may remember back in March we featured a report title “The Elusive Canadian Housing Bubble” by a York University grad student by the name of Alec Pestov. His report created a lot of buzz around the Canadian blogosphere and beyond (even was featured on Zero Hedge), and he was nice enough to swing by here and answer some questions and interact in the comments section.

Well, I just got an e-mail from him letting me know he just published an update on it, and I figured who would be better to share it with than my faithful readers… all two of them (btw, hi mom! Just kidding, she’d never read my tripe). Haven’t even got a chance to read it myself yet, as I literally got the e-mail in the last ten minutes… planning to dig in to it myself once I finish writing this.

For those economics/stats geeks out there that may have missed out the first time around, be sure to check this out though, as it’s surely right up your alley. I look forward to discussing it with you all, and if we’re lucky maybe Alec will even swing by again and answer some questions we may have.

The Elusive Canadian Housing Bubble – Summer 2010

Finally got a day off, and the girlfriend cleared out knowing my plans extended no further than vegging out watching football of all varieties this Sunday. So, with the house all to myself, it’s time to kick back, relax, and break out the really freaky porn! What? No! Never! Well, maybe latter… but first I’m going to tackle a subject I’ve been meaning to look at for awhile.

That being, why prices going down is actually a good thing.

There seems to be this naive prevailing wisdom that somehow high real estate prices are preferable and/or inherently good. I’ll agree that too a point they can be, insofar as it’s typically a sign of rising incomes, consumer confidence, and a healthy economy… but what happens when they go waaaaay beyond levels supported by fundamentals?

At that point high prices actually become a significant drag on the economy. Disposable income is suddenly getting eaten up paying for a house and servicing the debt. Say you’re the median Edmonton family, pulling in $70,000 a year and you finance a house for $350,000 rather than the $250,000 for that same house that such income levels would typically support. Assuming traditional 25 year amortization, and 6% interest… on $250,000 you’d be paying about $19,000 a year… if you finance $350,000 you pay about $27,000 a year (even if you stretch the amortization to 35, you still pay $24,000, and that $3,000 you save comes entirely from what would have been equity).

You’re basically spending $8,000 a year you could be spending on other things if the market wasn’t overvalued. That’s over 10% of your gross income, and probably around 15% of what your take home. Obviously you’d spend some of that frivolously, but even if you only saved/invested half of that the spin offs and potential earnings from putting that money too work for you would start multiplying quickly. And even what you’d be frivolous spending would be lost to the local economy, and rather than circulate there it’s benefiting the bank and not you.

There may be something of a short term “wealth effect”… but that doesn’t last forever, and it’s credit fueled too, so those chicken will come home to roost too. So, with overvalues homes, a lot of money is lost to the economy as a whole, and instead funneled though a select few. Banks love high prices, the more people borrow, the more they make… builders love it, gives them a nice fat profit margin… and agents and mortgage brokers work on commission based on the amount paid or borrowed, so obviously they love ‘em. But while a minority certainly benefit from overvalued homes, it comes at a heavy expense to the economy as a whole.

To make the point as simple as possible, the less someone has to spend on their house, the more they have to spend on everything else. Unfortunately that is a point not often heard, as there doesn’t tend to be much money in telling people how-not-to spend theres… there is plenty though in telling people how-to spend it, which is why the message of the profiteers is heard loudly, and all to often, unopposed.

Houses don’t really provide any future value for the economy. They provide shelter, and are essentially a consumable. Whether they sell for $1, or $1,000,000 they don’t change in substance. They can be profited from, but to do that you need to have bought low, sold high, and stayed out of the market… and the vast majority of people aren’t in that boat, most just buy-and-hold. They will often work their way up and/or down the property ladder a time or two through their lives, but that really doesn’t realize the owners any gains as long as they stay in the market, as whatever they sell may be inflated, but so will whatever they buy.

If you’ve owned in the city for 10 years, and intend to continue owning for another 10 years, what prices have done in the last few years makes no difference to you. What you owe the bank has remained the same… the only things that really matter is what the price was the day you first bought in, and what they are when you ultimately cash out and leave town.

Which brings me to my next point, being that price declines will not lead to an widespread economic catastrophe as some seem to think. Very few are actually exposed to downside risk. In the metro Edmonton area there is somewhere between 400,000-450,000 residences… and since prices reached the potential trouble territory where they got more than 15-20% out of line with fundamental supports like incomes, there have been about 100,000 sales when you figure in new construction and resales (whether through MLS or FSBO)… but the majority of those already established in the market, and whatever they overpaid would have been offset by someone overpaying for their old place.

There are only really three groups that could be in real trouble with a prolonged downturn in prices… speculators, reckless borrowers, and first-time buyers. Only maybe 1/3rd of those 100,000 sales in that trouble period went to any of these groups, which is only about 7-8% of the total market if every single one of them was in trouble… and I’d venture to guess those truly at risk is only half that again, so 3-4%.

These are numbers that while would certainly soften the market, and hasten it’s return to the historical mean… but in no means would it cause a complete implosion of the housing market, much less the great economy. You’ll see a whole swath of 20-, 30- and 40- somethings get their financial asses handed to them, but would hardly be enough to bring down the whole show.

At least that’s my take on things. In-my-not-so-humble-opinion prices going down is anything but “doom and gloom”… there may be some isolated cases of financial doom, there were some of on the way up too, welcome to capitalism… for the economy on a whole, prices returning to fundamentally supported levels is not just good, it’s necessary.

It may seem like more fun when housing was booming, but it’s really more like a cancerous tumor… and if we want a sustainable and healthy market, we need some kemo. Which doesn’t sound like any fun, but it is necessary, because the longer we go without it, the worse the disease gets… and that can be applied beyond just out housing bubble, to our even greater issue with credit in general.

The truth is, every month the price goes down, is a month the market is healthier than it was the one before.