Monday, May 25, 2009

Housing recovery?

March & April saw big pickups in sales activity in most major markets. Prices still fell YoY although they were up in April versus March. 4 of 6 NHL markets are still down YoY, as Ottawa has returned to positive in April. Montreal is still barely up.

The media and the real estate industry are portraying this as a recovery and the worst is over. I will be honest, the strength of the April report did surprise me.

What is going on?

IMHO, this is due to the following:

1) Low interest rate buyers. As I mentioned recently, a lot of people are drooling over low interest rates. They crunch the math and they come to the conclusion that their mortgage is affordable. Unfortunately, they are not looking at the real cost of interest, which is probably 10%+ once you factor in house price deflation.

2) We had a huge crash in sales from October to February (5 months). Some of the people who held off in the fall crash need to buy or sell, and as such, there was an element of pent-up demand. This pent-up demand may persist for a few more months.

3) The huge effect of the recent layoffs has only started to be felt in the housing market. It takes many months before unemployed workers fall behind in their mortgage payments. I expect this effect to show up in the fall.

4) Seasonality: Most Canadians buy or sell their homes in spring or fall. The summer is short in Canada, and most people take vacation in the summer. The summer market is slow. For people to move prior to the summer, they need to buy in April or May latest. Therefore, March was the beginning of the panic buying.

Where do we go from here?

Also, let me revisit some predictions from prior months:

From March 16th:

March is also a decent report (the rate of decline stabilizes in the high
single digits) and the bottom callers will start. Remember the same phenomenon
happened in the US housing market back in 2007.
By April, we are back to negative double digits again.

Boy, was I wrong. April YoY was only -3%. I am the first to admit when I am wrong, unlike CREA.

Where do we go from here?

The Canadian housing market is in its last hurrah. People who are buying here with heavy leverage due to low interest rates are making a big mistake, in my opinion. They are falling in the trap of looking at cheap monthly payments versus the amount of debt that they are absorbing. The numbers and the anecdotal proof that I see are telling me that Canadians are completely in denial. Canadians think that the US housing bust is unique to the US and that it can’t happen here. Canadians don’t even think about mortgage rate resets in 5 years (when their 5 year mortgage comes due). Canadians don’t even think that it makes no sense anyone to receive a mortgage with 5% down.

In my opinion, we are in a deflationary depression. All the printing of money by the governments is only adding more debt when there is already too much debt. While consumers and businesses are de-leveraging, governments worldwide are re-leveraging and completely offsetting the de-leveraging. I suspect that markets are wising up to this and about to force the hand of the bond market. Long term interest rates have started to increase sharply and no amount of buying of bonds by the Federal Reserve will change this. The world is swimming in debt and asset prices have dropped by trillions. The world has never been asked to finance $4 trillion of government debt in one year. And then maybe the same amount in 2010. Who is going to buy all this stuff?

I look for a few things to happen in the Canadian housing market this year:

1) Mortgage rates are going to increase very soon as the bond market is getting killed. This could increase 5 year mortgage rates.
2) The stock market is going to go a lot lower. This will kill the current “green shoots” myth.
3) Unemployment is going to 9% soon. A 3% rise in unemployment in roughly 12 months is going to make some people think twice before adding hundreds of thousands of dollars of debt. This will ultimately impact foreclosures.
4) It has been conventional wisdom that Canada’s oligopolistic banking system is fantastic. I am short conventional wisdom. I expect the Canadian banking system to also encounter problems, which will ultimately impact access to financing. When this happens, that will send home prices falling. I also expect 25 year amortizations, a 25% down to come back at some point. That will also send home prices falling.

This home price drop will take years. It will unwind a little slower than the US but it will be quite severe when it is all over. TD came out recently with a 24% peak to trough fall in housing. They have been criticized for that being too pessimistic. I suspect that when it is all said and done, that will be optimistic.

It is likely that this pickup in housing sales can go on for a few more months, but big picture, it is just sucking up some more demand from the future and making the next drop more painful. I may have been wrong about April, but I don't think that I will be wrong on the big picture in housing.

Disclosure: Short Canadian banks, US financials, Nasdaq, long S&P puts

Friday, May 22, 2009

Now it is the shortest recession

First, it was no recession in the US or Canada.
Next, it was a recession in the US but only a slowdown in Canada.
Then, it was a severe recession in the US but only a mild recession in Canada.
Now, it is a severe recession in the US but only a short, sharp recession in Canada.

"Canada’s Deepest Recession Since 1930s May Be Short ", Bloomberg, May 20.
Canada’s recession, likely its deepest since the Great Depression, may also be its shortest.
Let’s go back in time to November 19, 2008 (AFTER the stock market crashed).

Jay Bryan of the Montreal Gazette wrote a laughable article, “Why Canada looks likely to escape severe recession”. This guy writes a horrible column in the Gazette every few days, where he basically bashes the US economy, promotes the Canadian economy and then finds a clueless bank economist to back up his view.
Quoting National Bank economist, Yanick Desnoyers: "I cannot exclude the possibility" that Canada will have a mild recession, he said yesterday, but if so, it will be much less painful than the one south of the border. In terms of the average Canadian worker, for example, Desnoyers expects to see the unemployment rate rise by perhaps one percentage point before job conditions stabilize late in 2009.
Cannot exclude the possibility of a mild recession? In mid November, it was already obvious that we were in a severe recession, and he is hedging on even a mild recession. The Canadian economy has already tacked on almost 2% points to unemployment, shrunk by 5% to 7% for 2 quarters.

Let’s go to July 3, 2008 near the peak of oil and commodities.
"Canada growth rate seen halved but no recession" - Reuters
High commodity prices will help Canada avoid a recession this year but a U.S. slump will pull down economic growth to 1.4 percent, about half last year's rate and below official forecasts, Royal Bank of Canada said on Thursday.After an unexpected contraction in the first quarter of an annualized 0.3 percent, the economy will fare better in the remainder of the year due to support from consumer spending, business investment, an easing of financial market pressures and high prices for energy and other natural resources, the bank predicted in its revised forecasts."Domestic demand is holding up and will more than offset the significant drag from net exports this year," it said.

Yeah, things got much better in the remainder of the year! How did that "easing of financial market pressures and high prices for energy and other natural resources" prediction work out for you?

Let's go back further in time still: January 2008
"No recession in Canada, bank economists say"
Canada's economic growth will slow down this year, but will avoid a recession, top economists at Canada's biggest banks agreed Wednesday.
No need to add comments to this gem.
The five economists don't see a recession in the U.S. either, although some say it will be close.
It is insanity to listen to these same people with their same useless logic. Right now, they are correctly forecasting that the worst quarter of Canadian GDP was in Q1 (for the time being anyway). Even IF we do have a positive quarter, and I'm not convinced that we do, this does not mean that the recession is over! In Q2 of 2008, the US economy had a solid showing (2.8%) before tanking in Q4 (-6.3%). Did the US recession end in Q2 2008?

If you notice the common element in their forecasts: the bank economists always assume that what is up will stay up (commodity prices in early 2008/domestic demand) and when something drops (as everything did in Q4 2008/Q1 2009), things will go back to normal later in the year. I think to these people, the whole recession was just a normal cyclical thing and once it is over, everything will hunky dory again.

Tuesday, May 12, 2009

Mortgage Rates

Excellent question from a kind reader:

What do you think the 'closed 5yr' intrest rate for a mortgage will be in 5
years time? I have to renew and I have pre-approved for a 5yr closed rate for

I can't "do" advice here, but I will repeat what I said to a family member the other day and what I believe that the facts are:

1) Normally, it does not make sense to lock in for 5 years as you pay a premium.
2) However, these are not normal times
3) Interest rates are at multi-generational lows. Mathematically, mortgage rates can not go much lower, but they can go a lot, lot higher.
4) Those interest rates have begun to back up and I think that interest rates are going much, much higher at the long end over the next few years (ie 10-30 year government bonds) despite upcoming deflation as there is too much supply and not enough reward (ie yield) for the risk of default. I could be wrong on this
5) As we saw in the fall, when bank lending dries up and their cost of capital increases, prime and mortgage rates can vary from "normal". If we get a banking crisis in Canada, mortgage rates could soar even if government bond yields stay low.
6) A run on the Canadian dollar could send Canadian interest rates rising
7) Sleeping well at night and having a super low 5 year rate that can not change would be great to me.
8) My sense is that mortgage rates are going to creep up very soon, as the bond market has sold off sharply in recent weeks.

Monday, May 11, 2009

Job loss hurricane is over, for now

In April, the Canadian economy created 36,000 jobs, almost entirely in self-employed. I am self-employed, but a structural shift of that magnitude does not take place in one month. More likely, you have a bunch of people looking for work who settled for some part-time work and call themselves self-employed.

Nonetheless, and it is risky to base this on one month of data, but it appears as if the job loss hurricane (50K to 100K per month) is over for now. The unemployment rate spiked from 6.2% in October to 8.0% in March, a huge spike of 1.8% for just five months.

As I mentioned back in early February, look for the following in 2009:

I would look for an average of 50-60K in job losses (600K-720K annualized).

I suspect that we are in the midst of a job loss hurricane that is tracking
the steep fall in GDP in recent months. Once this round of job cuts is finished
(spring?), we may get a lull for a few months where job losses continue but at a
much lower pace. Another round may begin in the fall once people return from
summer vacation and realize that the economy won’t magically pick up in

Welcome to that lull, as this round (357K in 5 months; 71K per month) appeared to end in March. Gut feel is that we now moderate our job losses to something in the 30-40K range for the next few months. That job loss hurricane was a reaction to the sharp fall in GDP in Q4 2008 & Q1 2008, and now that the economy is shrinking at a slower rate, the job market will deteriorate at a slower rate.

I think the risk will now be in the fall months. At that point, I think the stock market and economy will be still be sinking and companies will abandon hope of an economic recovery in 2009. The result will be a big wave of layoffs and a climb toward 9% unemployment. I hope that I am wrong on my estimate for job losses in the 600-700K range for 2009.

My two cents: If you are looking for a job now or to change jobs, hurry before the summer shutdown of July/August and the next round of layoffs in the fall.

Let's leave this blog with a great quote by an esteemed bank economist in February:
“The recession deepened at the start of 2009, and we are likely to see the
jobless rate rise above eight per cent by year end,
” warned Benjamin
Reitzes,economist at BMO Nesbitt Burns.

My thought: At this rate, it will be at 8% in April. By mid year, at the
absolute latest. 9% by year end is looking conservative. Remember in the last 2
recessions, unemployment went to 12%.

Fact: It was 8% in March & April. Any tick up and Reitzes' warning will be as useless as most of the ridiculous statements coming out of the banks in recent weeks. A blog on that is needed and in the works...

Saturday, May 2, 2009

May Day

All this talk of new bull markets and green shoots has been ferocious in recent weeks.

I wrote in March:

My gut tells me that this is the classic bear market rally that will suck in a lot of people before ultimately going lower. This rally could last a lot longer than six weeks, however, and a sucessful retest at some future point, could allow a rally (or the March lows) to hold for a long period. I suspect that we should be fine until mid/late April and we could test or break the January highs (which would take us to roughly break-even for 2009 YTD). Expect a lot of congratulations by the establishment on their fiscal and monetary tactics as the rally extends. You will hear that the interest rate cuts, the gas price "tax cut", the quantitative easy and the stimulus is working (and it may for a short period).

I don't plan on "believing the hype!". Bear market rallies are not "stabilization" but the natural ebb & flow. I remain very bearish long term but I could change my mind on all of this tomorrow. I plan on discussing the catalysts for the next downleg in a future post, but expect soaring long term interest rates to be part of the problem. At first, sinking bond prices will be welcomed but our overleveraged economy can not survive high interest rates.
At the time, I was long TBT (ultrashort the US long bond). Unfortunately I got stopped out a while back at a loss. Had I held on, I would have had a nice profit.

Here is my roadmap. As I write this, the world is giddy that the end of the recession is near (summer or Q4 at the latest is the current mainstream view). Dow 10,000 talk is back and few talk of retests of the March lows.

I believe that we are nearing an inflection point here. A downleg is starting that should take us to approximately S&P 777ish over the four weeks. From there, we can either start a nice summer rally (back to current levels of S&P 877 or higher to 900-1000) or we can go right to a retest of the March lows. The real move lower will probably start in August 2009, but I am still not sure when. Ultimately, I believe the stock market is going to go a lot lower.

All the congratulations and hype mentioned above back in March are now present, but I am not believing the hype.

The conditions still remain for a severe bear market that will last more than 1.5 years. While 2008 may have been the worst % year of the bear, I do not expect 2009 to wind up positive. There are many factors that need to happen, in my opinion, before a new bull market can truly start:

1) We need a lot more debt to be extinguished. Debt levels are still astronomical. Unfortunately, this means more bankruptcies (Chrysler) and more foreclosures. The process took about 20-25 years, and will likely take at least five years to complete.
2) We need savings to increase. This also will take years.
3) We need the banking system to heal itself. This process has started but there are more failures ahead, including in Canada, I believe.
4) We need the passage of time. It will take a few more false starts like this year's bear market rally to pave the way for a new bull.

There are many other factors (these are the ones that come to my head right now).

I also see a stronger economy in Q3 (contracting but not at -6% or -7%) but I would not rule out some ugly numbers for late 2009 or early 2010. Why? Interest rates. The world has never seen the type of debt issuance that governments are trying to foist on the bond market. There is going to be $4 trillion plus of debt issued by governments this year. Where is the money going to come from to buy this debt? It has to come from other asset classes. Even if I am wrong about interest rates, I don't see how $4 trillion can be floated without hitting other asset classes such as emerging markets. That $4 trillion is an annual figure. Chances are 2010 will require just as much.

I don't think that long term interest rates can be controlled as Bernanke & Geithner are attempting to do. For that matter, I don't think there is much that Bernanke & Geithner (or their successors) can do to prevent the massive debt deflation that is happening. The last thing the world needs is higher interest rates, given the crushing debt loads out there and given deflation.

All this deflation should ultimately lead to weaker currencies versus the US dollar (with the possible exception of the Yen). Again, another "last thing" the world needs is a stronger US dollar, as this will make debt repayment hard for many who have borrowed in US dollars. And finally, the weak financial system, overleveraged and underemployed consumer will hurt the economy and stock markets.

Instead of a double dip recession, how about a double dip depression?

Risk is very high once again.

Disclosure: Long US dollars, Long Yen, short and long various Canadian banks (with intent of being net short one day), short US banks and long SPY puts. I have started shorting again, but very small at this point. I need a move below 850-870 to have me convinced that the top of this sucker rally is over.

Don't stress about stress tests

All this talk of stress tests! The whole thing is silly. Similar to having a student (bank) and teacher (government) negotiate a grade for a report card. Another silly idea by Geithner that will do little to impress anyone.

A true stress test would find most financial institutions in the US to be insolvent. The "adverse" conditions laid out in the stress tests are a base case, while the base case is a joke (2010 unemployment at 8.8%, near current rates- even if you think that the economy is going to grow in 2010, unemployment usually peaks for 2 years after a recovery).  There are so many assumptions involved that the test is being rigged.

Anyway, I think that the market is smarter than the stress tests, and that these stress tests will be a tool for government to either put more money in the banks or force the banks to do things that they may not have done otherwise. The bad banks (C, BAC) will need to raise money, but the market knows this. The market may well yawn at the results of this rigged stress test. I believe it is heading down anyway, and perhaps reporters will assign blame on the test, but I think much of the test has been leaked and dismissed as a big joke anyway. The real surprises are usually hard to forecast. Perhaps the banking sector surprises are going to come from non-US banks (Canada or Europe?), I believe, and they will not be telegraphed.

Right now, everyone thinks that JP Morgan and the Canadian banks walk on water. Somehow, I doubt that when this recession is finally over, people will be saying that. 
That is the history of these things.