Sunday, April 24, 2016

Canadian Housing Market Crash? Maybe.

There are signs of froth in the Canadian Housing Market.  There may be signs like this in the near future as well.

Note:  I have addressed this issue in an earlier posting as well.

Having lived through not one, but two housing crashes in the United States, I have seen a pattern in both instances, right before housing prices took a nosedive.   In both cases, we saw a number of the same things happening.  First, the talk.  We heard a lot of happy-talk from folks right up until the foreclosures started:
1.  People denying there was a bubble.

2.  People denying that bubbles even existed.

3.  People saying that "Housing will always go up in value."

4.  People saying that, "This time, it's different" (if they admit to past bubbles).

5.  People saying, "Our area is different" (again, if they even admit to bubbles existing).

6.  People quoting Mark Twain, who supposedly said, "Buy land - they're not making any more of it!"
7.  People saying, "Well, even if we can't afford these properties, the [name of foreign country] folks have lots of money and will snap these up!"

That's just the happy talk.   The talk that denies reality.   And reality is, that housing and real estate bubbles have occurred again and again in the history of our country, as people over-bid prices and "corrections" came due.   If you read Tom Wolfe's Look Homeward Angel, you'd know this - much of the book is about the aftermath of a housing bubble in Asheville, North Carolina, where the citizens became convinced that housing prices were going nowhere but up, and everyone started bidding up prices into the stratosphere.  Prices crashed in 1927.  Two years later, the economy crashed as well.  People became bitter that somehow they were snookered and it was someone else's fault.   Stop me if this sounds familiar.

The supposed Mark Twain quote is interesting, as at least on the surface, it appears that land is a finite commodity.   Indeed, they are not making "any more of it" but there is a lot of it around - more than we think.   And while over time housing prices will generally climb (as do stock prices) there are periods where prices make retreats as well.   It is like the gold market - yes, it will go up and up in price, eventually.  But if you bought at $1800 an ounce and need to sell today, you are in some trouble.

The problem with land as a finite resource is that people do have the choice to move to other places.  When I was representing silicon valley semiconductor firms back in the 1990's, the price of housing in the bay area was going up faster than inflation.   People complained that it was hard to find a good place to live.   Many semiconductor companies moved out of the area, to places like Austin and Boulder and Tuscon or wherever, where the cost of living was cheaper, and thus they could pay Engineers and support staff less but provide them with a better actual standard of living.  Today, housing prices in the Bay area are again through the roof, and we may see a similar tech migration in the near future.  Apple may regret investing so much in a "flying saucer" headquarters.

In the Washington, D.C., area, we saw people moving further and further out from the city, with many outlying smaller cities, such as Tyson's Corner or Reston, becoming employment centers for tech companies and government contractors.   Telecommuting meant that many workers no longer needed to "be" at an office more than a day or two a week.  Indeed, I left the area and now live on an island, because frankly, my job can be done anywhere there is an internet connection.   The Internet will be a great counterweight, I think, to this idea that you have to live in a particular place, when there are places cheaper to live. 

The last item is interesting in that in Ft. Lauderdale, right before the crash, I was told that Brazilians or British folks would pay these outrageous prices, as they liked to vacation in Florida.   And I am sure a few did.  A friend of mine bought a "short sale" home in The Villages from a Scottish couple who bought at the height of the market, thinking they would spend a few months every year in that retirement community.  It turned out to be a bad idea for them, but my friends snapped up a real bargain once the housing bubble popped.   And the Brazilians?  Well, there are a few of them who are fabulously wealthy and own their own jets and helicopters.  But most live in shacks and are dirt poor.  And the really rich ones don't want a two-bedroom condo in Ft. Lauderdale, but an estate on Fisher Island. 

In Canada, the foreign entity this time around is the Chinese.   Now, at least with the Chinese, it appears there actually are quite a few who have money and want to establish a foothold in Canada for political reasons.   But how many Chinese millionaires there are is a good question.  According to some sources, there are only about 3-4 million of them, as opposed to 4-6 million in the USA (and no, we aren't going to pull up stakes and move to Canada when Trump is elected, because Trump isn't going to be elected).

And as one of those American Millionaires, I can tell you I have no desire to overpay for a house, either in America or Canada.   Just because I have a million dollars doesn't mean I want to spend $3 million on a house.  I simply can't afford it.   Not only that, I don't want to overpay for a $450,000 house, either.  That is the thing about most rich folks, they are kind of smart with money, and aren't likely to just squander it, willy-nilly.

So while the wily Chinese may be buying, there will reach a point where prices get so high they will start selling.   And we saw this before with the Japanese in the late 1980's and early 1990's when they started buying up real estate (and golf courses) in California and Hawaii and everyone thought "they are going to take over!"   But a funny thing happened - Japan entered a recession that lasted a decade - even as the US economy surged ahead.   Suddenly, the Japanese were selling off U.S. assets at a loss.  The dreaded "Tora! Tora! Tora!" invasion failed to materialize.

And if you have been following economic conditions in China, you may have noticed that things are indeed slowing down.   Perhaps they will buy in places that are less expensive, such as Calgary or its suburbs (which will see a downturn due to the tar sands debacle).  Or maybe they will stop buying completely, realizing that a house in a foreign country is less and investment and more of an albatross around their neck, particularly as their own fortunes wane.  They may also realized that you don't need to own a home in Canada to seek asylum there.  You could rent.

But then again, the Chinese are shitty investors.   Chinese citizens have enormous amounts of cash tied up in low-return savings accounts.  Worse yet, they invest in U.S. Government bonds, which pay fractional interest rates.   The Chinese either don't need the money or are severely risk-averse when it comes to investing.  Which is odd, because they are the most heavily courted customers by the Casinos and cruise ships, as they will gamble like maniacs.   Maybe they are not as smart as we think they are.  After all, they did embrace Communism for over 50 years, right?

So you have to take these mantras and slogans and "stories" with a grain of salt.   Prices cannot keep rising at a rate above inflation forever.   If a house is cheaper to rent than buy, people will eventually wise up and stop buying.  Or they will see cheaper cities in live in, where the overall effective standard of living is better, even if income - as measured numerically - is slightly lower.

But that is just the talk.  What about the numbers? On the ground, you'll also see patterns in the market:
1.  Prices rise 10-30% a year for a number of years in a row.

2.  The cost of owning a home is double (or more) than the cost of renting the same home.

3.  People are buying and flipping homes, often remodeling the same home between flips.

4.  Housing being torn down and bulldozed to make room for even more elaborate homes.

5.  Houses that are bought at high prices, but remain vacant for long periods of time as money-losing "investments".
6.  People trying to outbid each other to buy houses, with houses selling for over asking price.  In a traditional market, houses sell for less than asking price - after months on the market!

The pattern is the same in almost every bubble.  Toward the end in Florida, I saw people buy houses and leave them vacant, convinced they were going to double their money so quickly there was no point in renting them out.   And quite frankly, renting them out would bring in only a trivial amount of cash compared to the overall carrying cost, due to the insane prices and nothing-down mortgages.

Now, of course, each bubble is different.   In the D.C. bubble of 1989, it was commercial Real Estate that was hit hardest - as new buildings went up empty, and went bankrupt, resulting in a free-fall in rental prices.   And this occurred just as many tenants who signed leases 5-10 years earlier, had their leases come up for renewal.   They left en masse for the cheaper formerly bankrupt properties, causing their former landlord to go belly up.  It was like dominoes toppling one another.   The housing market was also overbuilt, but we saw only modest (compared to 2008) declines in prices, except in some condo markets, where prices dropped by 1/3 or more.

In Florida, overbuilding of condos really killed some areas, such as Ft. Lauderdale, where huge numbers of vacant buildings topped off at the same time, many with unsold units, or units sold to "investors" who hoped to flip them before their balloon notes were due.  In places like Lauderdale-By-The-Sea, they got as far as bulldozing all the great old motels on the beach before they went bankrupt, leaving that charming seaside community nothing more than chain-link fencing and construction sites for years to come.

We also had two hurricanes in a row (three actually) that drove insurance rates through the roof.  And as housing prices skyrocketed, so did property tax rates - pricing many investors out of their homes.   When you are paying $12,000 a year in property taxes plus $5000 a year in property insurance - on a property that might rent for $1500 a month, something has to give.  Each situation has elements in common and also unique elements.  Las Vegas was similar to Ft. Lauderdale, but also had its differences - the big one being that no one really thought out why anyone would want to own an expensive condo in a gambling town.

The situations in Vancouver and Toronto, for example, are similar to each other in some regards, and also different from one another.   They are similar to bubbles in the U.S. and also different in many ways.   But there have been bubbles in those markets before (particularly Toronto) and yes, people have told me with a straight face that the Toronto market never had a bubble before.  Google it.

What got me thinking about this was in addition to some links sent to me by a reader, I noticed (while traveling and staying in a hotel) that the "Home Shows" on HGTV and whatnot are now dominated by Canadian programs (or programmes).  The flip brothers are, of course, Canadian as are most of the folks on the "house hunting" shows.  The reason for this, of course, is that only in Canada can you still buy a house, fix it up and re-sell it at a profit.   After 2008, the idea of doing this in the USA seemed kind of obscene, particularly as people were losing their homes to foreclosure.   But the urge to watch other people do these things is apparently strong, so we Americans live vicariously through our Canadian neighbors, hoping that some day again, we will again go crazy and start to think of our homes as "investments" when they really aren't.

So, is there a Canadian housing bubble?  Maybe.  Since I am not "boots on the ground" in that market, I hesitate to pass a judgement.   Look at the criteria above and see if you see similar patterns where you live.  If things seem to make no sense, maybe it isn't because you are too dumb to understand it, but because everyone else is drinking the Kool-Aide.

Having the courage to act on convictions is another matter, however.   For example, are you willing to sell your house (at a profit) and move into a rental property based on your perception of where the market is heading?  And if so, when do you do so?   

In our case, we "got out" of the market around 2005, although I sold properties as late as 2008.  Timing the absolute peak of the market (which was around 2007) is hard to do.   Just as I thought the market was at its peak of insanity, it went up a couple more notches.   I call this the Donald Trump effect.   Just when you think Americans can't get any crazier, well, they take it up another notch of crazy.

And speaking of right-wing conspiracy theory nuts, there is one thing that didn't cause the market meltdown of 2008, and that was the so-called "Community Re-Investment Act" passed under the Clinton Administration (see my next posting).   The GOP concocted this theory that all the middle-class white people (potential GOP voters) didn't lose their homes to their own greed, but because Bill Clinton, in cahoots with Black People, took away all their money!  It is, of course, a lot of hooey.

Yet I know a lot of people who try to sell me this story, convinced it was true, even though they really weren't "there" in the market and saw what was going on firsthand.   All they know is, they over-mortgaged their house and now are upside-down on the loan, and it is a lot more convenient to blame black people for this mess than their own greed and stupidity in over-mortgaging their own homes.

And maybe the same thing will happen in Canada.   If the Chinese economy slows down, maybe some Chinese will sell their houses - or walk away from over-mortgaged nightmares.   And we can blame the yellow man for our own greed and stupidity.  Canadians are not all that different from Americans in that regard.

UPDATE:  There is one other factor that is a sure sign a housing bubble is about to pop:  You see more and more articles about whether in fact there is really a housing bubble.  Most of these come to vague or generic conclusions, or ask the reader to decide, as no one wants to go out on a limb predicting the future.   But there  are signs the Canadian bubble is popping in some places, according to some sources.

And it makes sense.  A slowdown in the Chinese economy plus satiated demand will mean slower sales in Vancouver.   The low price of oil is causing huge layoffs in Calgary, which will drive the prices of those acres and acres of new condo developments into the ground.   As a country with an economy based on the export of raw materials, Canada is very vulnerable to a downturn in the price of oil.

And some Canadians are starting to see this.   This does not bode well for the new Trudeau administration.   And I so liked his Dad.   This could mean a multi-year recession for Canada, unless oil prices recover quickly.


“Recent momentum in prices in Toronto and Vancouver may increase the likelihood of a correction in house prices, which could affect vulnerable households,” Bank of Canada Governor Stephen Poloz said at a press conference in Ottawa on Dec. 15, 2015

"Without calling the overall national issue a bubble, it's pretty clear that it's an unsustainable underlying pattern," Mr. Greenspan told the Economic Club of New York at the Hilton New York hotel in Midtown.  Mr. Greenspan emphasized that he sees no sign of a nationwide housing bubble, but he acknowledged concerns over "froth" in the market and pointed to a big increase in speculation in homes -- particularly in second homes. As a result, he said, there are "a lot of local bubbles" around the country. (NY Times, May 2005).

Wow, is there an echo in here?   Almost 10 years apart!