Overprime Lite

“It's a bit like closing the barn door after the horse has already run down the road.”

Douglas Porter, deputy chief economist at BMO Nesbitt Burns Inc. (Ottawa tightens mortgage rules to avoid 'bubble' - LORI MCLEOD AND KEVIN CARMICHAEL, G&M July 9, 2008)

Couldn't have said it better, Mr Porter.

The official story that the Big Banks, the Harperites and the mainstream media like to spin is that there is no housing bubble in Canada, despite the fact that Canadian home prices have risen about the same as the US did (pre 2007). Why? There is no big subprime here.

I've explained the Overprime concept here before: 40 year mortgages, 0% down...

The government, both Liberal and Tory, allowed it become easier and easier to buy a home. They poured fuel on the fire back in 2006 by extending the backing of mortgages from 25 years to 40 years.

Today, the announced that as of October 15, they will no longer back mortgages longer than 35 years and will demand a 5% down payment. According to the Globe, the government is trying to protect against creating a bubble.

If this were true, I would say: Good move! In fact, they probably should have tightened their standards back in 2006 instead of loosening them.

However, there already is a bubble and now that the bubble is bursting, they are to compound their first mistake by bursting it even faster!

Why Canadian banks would even contemplate making overprime mortgages currently given what is happening everywhere in the world, is beyond me. In recent months, Freddie Mac and Fannie Mae (publicly traded US Government Sponsored Entities) have been annihilated (falling 80%). Maybe the Harperites are worried about something similar happening here?

I believe that ultimately the market will go where it has to go regardless of the government, but this move is definitely going to hurt some buyers thereby depressing demand further. In a healthy market, this move would likely have little impact. In a market that is possibly about to crash, this move will have an impact.

As a renter looking to one day buy a house, I am supporting this move from Overprime to Overprime Lite.

$60 Oil and a 9000 TSX

On June 18 (just 3 weeks ago!) the TSX broke 15K and the bulls were out in full force. The TSX had now bucked the trend and had held up well in the face of a US bear market.

Today, we hit the "magical" 10% correction and erased all the YTD gains! With a 10% correction in just three weeks, I think the TSX is due to bounce and all the bulls are likely to buy their favorites again.

The TSX is a commodity play. If you can predict where oil and other commodities are headed, then you can predict where the TSX is headed. It is not a diversified index like the S&P500 and in a global bear market, any complacency about being up 10% YTD is crazy.

At the risk of sounding like a broken record, I talked about the risk to the TSX and commodities back on June 6,
May 16, April 21, March 20. Clearly in hindsight, I was too premature in most instances (perhaps not in June?) but the nature of bubbles are such that the blowoff phase can decimate bears and bulls that overstay the course.

I have seen what happened to some of the tech bears who shorted the Nasdaq in early 2000. They were ultimately right but they never lived to see the day. The blowoff parabolic phase can see enormous increases.

I am currently trying to study the signs to identify when a bubble is popping and when a bubble is simply in a correction phase. For example, the Nasdaq had some sharp corrections in January 2000 but then went much higher. Same for oil in late 2007/early 2008.

For the record, I agree with the esteemed John Hussman's analysis on oil. He throws out a possible $60 oil target. I believe that this is a reasonable target. Why?

1) First of all, the guy is good. But independently, I seem to recall oil being in the upper $60s last summer. What has changed since then to justify a doubling in price? Not much. Most of the developments seem to point to lower prices:

-Lower stock prices, lower housing prices, weaker economies, a massive credit crunch unseen since the 1930s

-Even the BRIC argument is weak as most of the emerging market stock indexes are down sharply, especially India and China

-Perhaps an Israeli attack on Iran would justify these prices. And even then, it would likely take a multimonth war to justify these prices.

2) $60 oil used to be high just a few years ago. I am not calling for $10 oil. $60 oil allows most oil producers to still remain profitable.

3) No one is even contemplating $60 oil. Even bears that I respect only talk about $100 oil.

4) We are on the cusp of a global recession/slowdown so demand is likely to tank. Add to that all the demand destruction caused by $145 oil, demand is likely to tank even further...

I have no position right now ("never short a chart that you can't ski down" is a famous quote I once read) but if we break $120, I would look for an opportunity.

If we get $60 oil and a bursting commodity bubble, the downside for the TSX would be unfathomable in my opinion. A 30% garden variety bear from 15K is 9000.... I don't know if this is where we go (we could easily go lower!) as all it takes is big moves in ECA, Suncor and Potash (to name a few) and you are there. And this 10% correction is nothing if we get a bursting of this bubble. Consider this yet another warning shot.

No positions at the current time

When do housing prices go negative?

Happy Canada Day!!

I have put up a poll on this to the left....

Back in April, I ventured a guess that the YoY numbers in Canada go negative in summer. Summer for me is June-July-August. I will clarify that thought: I now think that July will be that month (we were 1% in May)

Why July?

1) June may be too early and CREA may do everything it can to report a positive number. Remember that in most data, there are usually assumptions and estimates involved that can reflect the bias of the organization.

2) There was a huge increase in mortgage rates in June. There is usually a lag in the time that it affects prices (due to mortgage pre-approvals, psychology, etc...). The effect of this rate increase may only show up in late summer. However, by July, there should be enough of a negative effect to start hitting prices

3) June was a horrible month for most stock markets, albeit not quite as bad for the TSX. Nonetheless, most Canadians have some exposure to this, and psychologically, this will not help matters in July.

4) $1.50/L for gas. That is what I paid today. Granted, prices are higher in Quebec than the rest of Canada, but nonetheless, this is depressing consumer spending, consumer confidence and killing discretionary spending. It is also likely hard in places far from public transit/downtowns as people no longer want to commute as far. The effects of this are showing up in recent auto sales numbers and I think will begin to affect the housing market by July.

Prediction: June will be marginally positive and July will be negative.

Please vote and also leave comments on your thoughts and what is going on in your neighbourhood real estate market...

Mortgage Rates Jump

Five year mortgage rates jumped about 0.5% this week in response to a jump in yields in the Canadian bond market.

In recent weeks, bond markets around the world seem to have woken up to the fact that maybe inflation is not 2% anymore and maybe it won't be 2% anytime soon. In fact, in most countries, inflation has been creeping up to the mid single digits for the past few years, due to soaring energy and commodity prices, low interest rates and a strong world economy.

Canada has been somewhat exempt from this trend due to a soaring loonie that has caused import prices to drop sharply.

Well, the Bank of Canada decided to surprise the markets this week and not drop interest rates by 25 basis points as expected. Most central banks are either threatening to tighten or are tightening (despite the credit crunch) and the BoC woke up to this new reality this week.

Ultimately, I think that the credit crunch and the coming implosion of the commodities bubble will stop inflation dead in its track, but for now, mortgage rates are increasing. The timing of this will further hurt the Canadian housing market, which had a poor May.

May numbers stink

Longtime readers of this blog may remember that back in late winter, declining sales and slowing price growth were blamed on snowfall.

The results for the three months since then have been even worse even as that snowfall has melted away.

The May sales price increase YoY was 1.1%. This was down sharply from April's 3.2%. As I wrote back in April:

I will venture a guesstimate that the national home price "increase" will be close to zero sometime this summer. And maybe then the CREA will blame the heat...

Summer starts in June and we are already close to zero. Let's wait until the June results to try to confirm my guesstimate (and see if CREA blames the heat).

Watch CREA spin (remember they have a fantasylike 5% price increase for the full year despite all the building inventory)

• "Unlike the situation in the United States, re-sale housing prices in Canada continue to increase," said CREA president Calvin Lindberg.

• "The resale housing market has evolved in just a few short months," said CREA chief economist Gregory Klump. "The record number of new listings means more opportunities for buyers.

Yes, the situation in the United States is worse RIGHT NOW. Yes, housing prices in Canada continue to increase. But, the US did not go negative right away. It took almost a year for prices to go negative once the bubble began to unwind. Our bubble only started to unwind a few months ago!

"More opportunities for buyers". Lovely how they spin a record number of listings as a buying opportunity. Yes, there are more houses available and possibly better deals than a few months ago, but this is like saying that internet stocks were a good buy one month after the dotcom bubble began to burst. The housing bubble has taken years. It will take at least a few years for house prices to remove the excesses. Not a few months....

And remember that this housing bubble is unwinding despite record oil prices (Calgary and Edmonton are now the 2 weakest markets), declining interest rates and a strong loonie and new record highs on the TSX.

It will be interesting to see the effects of this week's sharp run up in mortgage rates on the July and August numbers. I think that a negative number in either July and/or August is quite likely. And then, you may (just maybe) start to see articles in the mainstream papers similar to what you've read here since the beginning of the year.

Recession confirmed in US; likely in Canada

Very good article in the Financial Post the other day that finally talks realistically about a recession in Canada (http://www.financialpost.com/story.html?id=552789). As you may know, this blog has been talking about this many times already. The question asked back in February was "did recession start here in February". With a negative December and now negative Q1, it appears that the financial media was sleeping!

The article mentions the negative Q1 and likely negative Q2 and mentions that it does not feel like a recession as it does in the US (consumption grew at 3.2% in Q1, down from 7.5%; real income grew at 3.7% vs 1.5% in the US) partly due to the fact that the GDP figures don't measure the high price of commodities directly in output.

I have no argument with the fact that it "feels" worse in the US. However, if the commodity markets and the strong loonie are keeping us relative strong, what happens if they turn? Despite the recent run up in crude oil, most commodities are already below their highs.

Relying on historically cyclical and volatile commodity prices to keep us going could be a dangerous strategy. We could in theory have positive GDP in the Q3 and Q4 and also have people "feeling" poorer if commodity markets implode...

Also, today's US unemployment rise to 5.5% (from 4.4% last year) should put any recession doubts to rest. Forget the positive GDP number for Q1 in the US. Expect it to be revised down...

Big day in the markets

June 6th: just another day for the markets!

-Dow down almost 400 points (3%)
-Unemployment rate in the US jumps 0.5% to 5.5%
-Oil up $11 (8%)
-Financials hit new lows (BKX index lower than Bear Stearns panic March 17th)
-TSX barely moves (down 26) as higher metals and oils offset by everything else plummeting.

If you are not in a few select areas (oil & gas, fertilizers, steels, a few select techs) you are getting killed. The TSX is "lucky" in that it has some of each (ECA, POT, RIM). Take away a few select stocks, and it is not doing well either.