Garth Turner - Real Estate in Canada

[wisdom]

It is not just for bad credit scores even though that is also part of the market. It could be people who don't qualify because of income or do not have a down payment (5% for insured mortgages and 20% for uninsured mortgages).

 

In the first scenario these pools are lending based on their experience of the last 15 years - i.e. you cannot lose money on Vancouver real estate. Thus, one need not worry about cash flows. As a result of ever increasing prices, within a few years the borrower can withdraw equity from the house from a traditional lender at regular pricing. Thus, both the lender and the borrower end up getting what they want.

 

In the 2nd scenario, brokers/lenders will recommend that you get lines of credits for 5% of the houses value right after they have pulled your credit history for the mortgage. Thus, these lines of credits/mortgage will not show up on the credit bureau and lenders will not need to debt service this new debt. In reality as your 5% is coming from borrowed sources - a fair number of these purchases are 100% financed.

 

In the greater Vancouver region you can't buy a detached house for under a million, thus, you do need 20% down. Most individuals in this city do not have access to $200-$400k in cash. Thus, all or part of the down payment could be from borrowed sources. Even if you pay 12% on $200k (20% of asset value), but, the asset price increases at an average of 9% a year for close to 15 years, you still come out far ahead. After a year or 2, you can refinance the property and pay off the private lender.

[wisdom]

I also believe that majority of the demand is from people buying additional revenue properties as their experience with real estate has been so good that they do not see any risk in leveraging up further on this asset. What is interesting is that in reality the new purchases are 100% financed as the down payments are coming from equity take outs from the other homes that they own.

 

ETO is the major source for down payments as not many individuals in a city with median household income of $73,000 and homes with median values close to $1 million have the resources to come up with 20% down payments.

 

Another interesting sign of a bubble that I see - majority of the individuals I talk to believe this is a bubble. Yet, they feel compelled to participate because of FOMO. It is fascinating to see irrational behavior compelling people to act against their own interests. If anyone wanted to conduct a study on herd behavior, social proof, etc. this is an awesome opportunity as it is so obvious.

[Aberhound]

The last two posts are absolutely correct in describing Hayek ponzi lending and irrational exuberance. But sitting outside by the river yesterday with a new climate here made us feel like California has moved to Vancouver. April used to be rainy and cool not in the 70s and sunny like summer. If you believe the papers it's carbon dioxide. It seems more like a regional effect of volcanism in the sea mounts warming the ocean by a few degrees and a worldwide effect of a shift in the solar spectrum to much more UVB (and UVC further south) in the now white sun. Both will likely persist.

 

We have the highest per capita in bound migration of millionaires for a good reason.

 

 

[JBTC]

Stampede: the inside story of Vancouver’s wildest property deal, gone in 7,200 seconds

 

An SCMP investigation reveals the obscure transactions behind a commercial real estate frenzy, including a two-hour stampede by investors desperate to pay C$60m for a site valued at C$16m. Then, a month after taking ownership, they resold it for C$68m

 

http://www.scmp.com/comment/blogs/article/1937267/stampede-inside-story-vancouvers-wildest-property-deal-gone-7200

 

[wisdom]

JBTC - that seems fairly consistent with money from China. They seem to have a 2 year timeline to flip the properties they are buying. They are extrapolating the results and plan to get out of the market at that stage. They do not care about cashflows, etc., speculating on the ever increasing prices.

[wisdom]

http://www.financialpost.com/m/wp/news/blog.html?b=business.financialpost.com/personal-finance/mortgages-real-estate/as-house-prices-soar-millennials-get-a-foot-in-the-door-of-their-first-home-with-help-from-their-friends&pubdata-ipsquote-timestamp=2016-04-27

 

Not sure, why rational individuals wouldo do this. Buying houses with friends, etc

[Liberty]

Looks like we might be seeing the beginning of more transparency with real estate data in Canada:

 

http://www.greaterfool.ca/2016/04/28/ethics-3/

 

Who knows how long it'll take for things to change, but at least that looks like a step in the right direction.

[wisdom]

http://www.cbc.ca/beta/news/business/real-estate-prices-suburbs-soar-1.3562481

 

Bidding wars in Toronto and Vancouver. Buy now or rent forever.

[gary17]

2 days ago i was competing for a 33 foot lot as well - there were 19 offers  and sold for 1.31M      didn't get it

[wisdom]

You need to bid $200-250k over asking in Vancouver  to even be considered. What is $200k amongst friends.

[bbarberayr]

Was walking near Humber Bay in Toronto on the weekend and lakefront condos were being quoted at over $1,000 per square foot - but I can see people buying.

 

A $1 million mortgage at 2.2% amortized over 25 years is $4,331 per month or about $52,000 per year. 

 

But if rates jump back to 5%, which would be considered exceptionally low prior to the financial crisis, that jumps to $70,000 per year. 

 

People are certainly looking at numbers like $4,331 and saying "with our 2 good lobs, we can afford that payment".  But many people are stretching themselves already to get into the market and not thinking about rate rises, so coming up with an extra $18,000 will be tough to impossible for many.

 

And when rates rise, you will probably see a lot of forced sellers, so prices will have a lot of air under them.

 

[KJP]

The latest issue of Graham & Doddsville has a brief discussion of Canadian real estate and why Home Capital Group is a short.  See discussion starting at p. 39:  https://www8.gsb.columbia.edu/valueinvesting/sites/valueinvesting/files/Graham%20%20Doddsville_Issue%2027.pdf

[mcliu]

The one thing I've been struggling with is which factors will drive mortgage rates higher?

 

Rates have kept going lower for the past 30 years. http://www.tradingeconomics.com/canada/interest-rate

 

If housing and the economy slows down, rates will likely be even lower than today.. With negative rates a possibility, BoC can always pay lenders to lend..

 

Most government would rather see much higher asset prices, lower interest rates (lower C$), and lower unemployment than lower asset prices, higher interest rates (higher C$) and higher unemployment.

 

So given the bias of BoC toward lowering rates, will rates ever "normalize"? Is there even a normal?

[gary17]

The one thing I've been struggling with is which factors will drive mortgage rates higher?

 

Rates have kept going lower for the past 30 years. http://www.tradingeconomics.com/canada/interest-rate

 

If housing and the economy slows down, rates will likely be even lower than today.. With negative rates a possibility, BoC can always pay lenders to lend..

 

Most government would rather see much higher asset prices, lower interest rates (lower C$), and lower unemployment than lower asset prices, higher interest rates (higher C$) and higher unemployment.

 

So given the bias of BoC toward lowering rates, will rates ever "normalize"? Is there even a normal?

 

can't predict macro but most likely low rates to stay forever so Vancouver RE should go towards the sky

[wisdom]

The other side is job losses due to deflation if we get lower rates. I can't see businesses prospering in that environment and with automation coming - I don't see how people will afford to pay back the debt they are taking on.

[rb]

The one thing I've been struggling with is which factors will drive mortgage rates higher?

 

Rates have kept going lower for the past 30 years. http://www.tradingeconomics.com/canada/interest-rate

 

If housing and the economy slows down, rates will likely be even lower than today.. With negative rates a possibility, BoC can always pay lenders to lend..

 

Most government would rather see much higher asset prices, lower interest rates (lower C$), and lower unemployment than lower asset prices, higher interest rates (higher C$) and higher unemployment.

 

So given the bias of BoC toward lowering rates, will rates ever "normalize"? Is there even a normal?

I've been doing a lot of work on Canadian RE for some clients for the past couple of weeks and I've come to think a lot about this. Especially since I think that interest rates will stay low for a long long long time.

 

I am by no stretch a visionary or any sort of expert in real estate (is anybody?). But my view is that based on affordability prices topped out in 07-08. But the drop in rates since then pushed the second leg of the advance in 09-present and we're back again to those maximum levels of (un)affordability. Only this time I don't think that interest rates have meaningful room to decline anymore so there goes that level.

 

Now what I'm thinking and the question I'm posing is: Why can't people just run out of money and the rally to burn itself out without a catalyst? When affordability ratios are such shit won't further price increases just make real estate plainly unaffordable even without rates going up?

[rb]

The other side is job losses due to deflation if we get lower rates. I can't see businesses prospering in that environment and with automation coming - I don't see how people will afford to pay back the debt they are taking on.

Please explain how monetary easing causes deflation?

[gary17]

why would we run out of money

low rates = cheap money !

[rb]

See.. I know you're officially joking. But I think there are more than a couple of people that think that way. Still.. for that to work and not run out of money you need not only low rates but perpetual easing in lending standards. Lately the government has been busy tightening lending standards and I have a feeling that they're only getting started. So I revert back to my original premise.

[wisdom]

rb - what scenarios do you believe will lead to lower rates? Unemployment being higher, deflation, economic shock, etc.

 

None of these scenarios make it easier to pay back debt.

[rb]

yea, in those scenarios you are correct.

 

Also from the point of view of paying down debt we've seen pretty clearly that it's very hard to do at a large scale. Pretty much the only hope is to inflate it away. Not easy in a low inflation environment.

 

Personally I don't know what people are thinking. Last year my sister bought a $550,000 house in the middle of nowhere with 2% down. She is making 44k/year. TD wouldn't give her a mortgage. CIBC saw no problem with that.

[nodnub]

yea, in those scenarios you are correct.

 

Also from the point of view of paying down debt we've seen pretty clearly that it's very hard to do at a large scale. Pretty much the only hope is to inflate it away. Not easy in a low inflation environment.

 

Personally I don't know what people are thinking. Last year my sister bought a $550,000 house in the middle of nowhere with 2% down. She is making 44k/year. TD wouldn't give her a mortgage. CIBC saw no problem with that.

 

RB, that is interesting.  Are you saying you don't know what CIBC was thinking in giving her that mortgage?  Or what she was thinking in taking it?  Or both?

 

Canadians earning $44k/year can expect an aftertax income of about $36,000. 

A 540,000 mortgage on 3 year variable at 2.7% is about $2500/mo payment.  That leaves only $500/mo for all other expenses, property tax, repairs, groceries, utilities?  Can that be right?  What am I missing here?  Does she have a tenant to help with rent?  Other sources of income?

 

 

 

[rb]

I'm saying both.

 

The full study is that she did officially put 5% down because she borrowed 3% from my other sister for the down payment. She also bought the house with her boyfriend who's a contractor. He makes in the 50-60k range per year. A chunk of that is cash jobs. So let's say that there's not a lot of income verification that can be done on his side.

 

The fact that CIBC wrote the mortgage didn't surprise me that much. Whenever there was a financial blowup CIBC were a player in it. They gave her 5 year variable at 2.2%. And let me emphasize again. This is not prime property!

[SafetyinNumbers]

The bank has zero risk here don't they? They would have to get mortgage insurance so either MIC or CMHC would be on the hook.

[rb]

They're definitely getting insurance from somewhere. I can't see how CMHC would write that policy.

 

I think it's a little short sighted to say that the bank has no risk. Usually you don't see where the risk comes from until the postmortem after the blowup. If it's so clear that there's zero risk why did TD decline? Say they insured it with MIC cause CMHC balked at it. And MIC insures a whole lot of shitbag mortgages. And MIC goes under. Is that really zero risk?