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Friday, November 06, 2009 1:34 AM

A Canadian Says "Short Canada"

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Although I have mentioned the enormous property bubble in Canada on numerous occasions, I have also stated a belief that Canada as a whole was better off than the US.

Not so fast says Jonathan Tonge of the America Canada Blog.

Jonathan pinged me with the following email:


Observing the attached August 2009 GDP report you’ll note that Canada’s economy is still receding and it has not escaped recession. Furthermore, the only sectors that are growing are from the result of one of two things: stimulus and a massively inflationary credit environment.

Canadian Real Estate:

Canada’s home prices have skyrocketed in this recession. When the dollar was at 97 cents US a couple weeks ago, average Canadian home prices hit roughly $320,000 US – an all-time high. Residential mortgage debt has over doubled since 2002. We will surpass the US in per capita residential debt within the next year. In 2009 alone, we will add 100 billion in fresh residential mortgage credit (equivalent of about 1 trillion in the US on a per capita basis)

The average price of a detached Toronto home has approached $600,000. I have attached a home listed at $559,000. The home is about a 15 minute drive from downtown in an average location. It is clearly overvalued.

The listing-to-sales ratio in Toronto, the fifth largest city in North America, has surpassed the late 1980’s bubble. Moments after that point Toronto’s housing market crashed losing 25% of its value and the country went into a deep recession. Toronto’s housing market took 12 years to recover, and needless to say its recovery was brought on by a massively inflationary credit environment.

In the greater Vancouver area, our third largest metropolis after Montreal, the average price of a detached home in March 2008 was $921,000. In fall of 2008 the market tanked, but only to find itself growing again in 2009. By September 2009 the average price was back up to $904,000. Average household incomes in Vancouver are lower than average incomes in Toronto. They hover somewhere around the $70,000 mark.

All of these prices are one hundred percent attributable to ultra low interest rates and a government insured credit market. CMHC, the equivalent of Fannie and Freddie, has expanded securitization of mortgage debt to nearly 100% of the credit market in Canada. The government of Canada insures the securities. The healthy banks in Canada, something that gets bragged about internationally, have fewer loans on their books then they did in 2007. This is despite the credit market growing by 30% since then.

The Bank of Canada has already admitted to a real estate bubble in Canada. Mark Carney, head of the BOC, has threatened to manipulate the mortgage market if borrowers don’t come to their senses.

Exports and Buy America:

Exports to the United States have fallen nearly 50%, in part thanks to “Buy America”.

I was just transferred from our Mississauga, ON offices to Hamilton, and I get the pleasure of driving through the steel armpit of Ontario daily. US Steel purchased Stelco, our largest steel manufacturer, two years ago and just after it received hundreds of millions from Ontario’s provincial government to keep operating. Within days of “Buy America”, US steel shut down the Canadian Stelco plant.

A few months ago, as the benefits for the laid off workers dried up, US Steel was notified that they would have to either bring the workers back or pay out their pensions. US Steel decided to bring them back to work. Instead of making steel, they painted all the buildings in a fresh coat of blue paint. If you understand the size of the Stelco plant and buildings, then you can understand what a formidable task this was.

A couple weeks after it now appears that all the buildings are blue and the workers have been laid off again. However the steel mill now sends clouds of pollution miles high in the sky. I have been told by some locals that the US Steel sends its iron ore to the plant to be refined. Once refined it is put back on the ship and sent to one of their US plants – most likely in Gary Indiana – to be turned into steel. So we get the pollution up here but none of the profits or labour. The government of Canada has taken US Steel to court for $10 million per day for breach of contract.

Wait until more Canadians find out about this. “Buy Canada’, or more plausibly, “Do Not Buy America” will gain steam. We’re a free trade country by and far, but “Buy America” has been a hard hit below the belt for most of us.


In Ontario, a province with 1/3 the number of citizens as California, we are running a 25 billion deficit, which is getting revised upwards of 10 billion every two months. On top of that the governments in Canada are in bed with the government unions, and for obvious reasons they truly believe that running massive deficits are good for the economy. They remember nothing of the hardship that Canada went through in the 90’s when our debt-to-gdp topped 100%, our country went into deep recession, and we lost our triple A rating.

As an example of this ludicrous spending, Ontario, despite the record deficit, just passed all day kindergarten. The program, a concoction of the teacher’s union, insisted that the all day program shall be taught by university educated teachers. These teachers can earn almost $100,000 per year. The program is expected to serve up to 100,000 students and cost $1.5 billion per year. That’s $15,000 per year per child to receive an additional half day of kindergarten class.

Between our federal and provincial governments we will run deficits well over 100 billion. On a per capita basis, that is the equivalent of the US running a trillion dollar deficit. This is the fastest and most significant meltdown of our national finances in a single year in history. Last year almost everything was operating in surplus.


All in, I’d short Canada if it was a stock. This isn’t good news for America. We are by far your largest trading partner. We consume more American made products than any other nation by a long shot (4 times what China consumes). If our economy crashes in the near future, it will impact tens of millions of US workers who depend daily on the free trade of goods between our countries.

Jonathan Tonge
CHMC - Canada's Fannie Mae

Please consider CMHC - Canada's Breaking Point by Jonathan Tonge.
Everyone here is probably very well aware of who CMHC is.

For any international visitors, CMHC was formed as a crown corporation in Canada after World War II to address the shortage in housing. It's mandate was to make home ownership accessible to all Canadians. CMHC primary deliverable is mortgage insurance and mortgage backed securities. Think Fannie and Freddie.

In 2001 GE Capital was permitted to join CMHC in the Canadian mortgage insurance industry to provide competition in the marketplace. GE Capital began insuring Canadian mortgages and issuing NHA-MBS (Mortgage Backed securities insured by the Government of Canada). In response to competition, CMHC began its trip down a new road.

In 2002 total outstanding mortgage debt in Canada was still a cool $467 billion. This was predominantly issued to good credit and people with proper downpayments. CMHC insured a small portion of this debt.

In 2003 CMHC decided to remove the price ceilings limitations. That is, it would insure any mortgage regardless of the cost of the home.

In 2007, after years of lobbying, the now defunct AIG found new hope with the newly elected Conservative government. AIG was now permitted to insure high risk Canadian mortgages. It was also permitted to issue mortgage backed securities and exchange these on the open market. At the same time, the Conservative government launched a radical policy that allowed CMHC, AIG & GE to insure 35 year ams and 0% down payments. A few months later this was expanded to 40 year amortizations.

Thanks to this stimulus in 2007 the market radically changed.

Historically high home prices continued to gain steam. High risk borrowers flooded the real estate market. Throughout 2007, the average home buyer who took out a mortgage had only 6% equity in their homes. That's the national average downpayment for all mortgages including buyers who moved up.

CMHC mandate is to help provide affordable housing. Yet it has only served to fuel the credit markets, increasing the price of homes well beyond affordable levels.
Inquiring minds are reading When Home Prices Rise also by Jonathan Tonge.
I'm about to offer the absolute best evidence of why Canada's housing market has to crash. It's written into the cards. So here it is in three quick charts.

We can start off by taking a quick snapshot of residential mortgage credit in Canada over the past thirty years.

Total Residential Mortgage Credit

Residential Mortgage Credit as a Percent of Salaries and Wages

Click on the chart for a sharper image. Note that in the past thirty years, home prices have only risen substantially when credit is accelerating.

This summer brought to us record home sales and average prices despite stagnating incomes. This was all caused by government stimulus priming the credit markets - mostly thanks to CMHC and the Bank of Canada.

In 1985 we borrowed 45% of our gross salaries and wages to pay for housing. By April of 2009 we borrowed 110%. This of course is an average of our entire country including those without mortgages.

To the bulls and bears, please put aside your emotions. A real estate correction is written into the cards. It's a mathematical must.
Vancouver Ownership vs. Rental

Here is an Email from "Ian" on the merits (or lack thereof) on owning a house in Vancouver.

Ian Writes:

I just did a quick comparison to see what the premium to own vs. rent in Vancouver & Toronto looked like, and I thought you may be interested.


Unit 1101-550 beach is available to purchase for $759,000

Unit 2101-550 beach is available to rent for $2300/month

Assuming: The purchaser pays full price, gets a 5 year closed at 4.1% and puts 20% down, the monthly cost to buy (including condo fees) is $3718. Premium to own vs. rent is 62%…..not to mention the additional $72k the Vancouver buyer needs in order to put down 20%.
Ian had Toronto examples as well but unfortunately the listings expired. The bottom line from Ian is Toronto is much more affordable than Vancouver (at least on a comparison of price to own vs. rent).

Ian Continues ....
I guess it’s important to consider a few other differences between the two cities.

Toronto/Ontario has:
A higher rate of population growth 9.2% vs. 6.5% (5 year average)
Higher median income ($78,802 compared to $74,961)
Higher savings rate (3.7% ONT vs. -2.6% for BC)
A bigger and more diverse economy

Vancouver/BC has:
A more aesthetically appealing city
A better hockey team
Way more Starbucks
Ontario deficits: No one cares

Deficit spending is not just for the US. Canada likes them too (and so does the UK, Japan, China, and everywhere else). Please consider Ontario deficits: No one cares
October 22, 2009 5:09 PM
Bond markets shrugged off news that Ontario will run a larger-than-expected $24.7-billion deficit.

There was widespread anticipation that Canada’s most populous province would overshoot its deficit forecast going into Thursday's economic update. So bond traders said the spread, or premium, on benchmark Ontario bonds widened by just one basis point when Finance Minister Dwight Duncan revealed an additional $6.2-billion in deficit spending.

Ontario is expected to see its total borrowing requirement for this fiscal year increase by $3.2-billion to $42.6-billion. A large portion of that additional borrowing - up to 50 per cent, according to investment banking sources - will be done on international markets.
Ontario taxpayers bracing for years of deficits

The Vancouver Sun notes Ontario taxpayers bracing for years of deficits
October 21, 2009
Ontario’s finance minister is bracing taxpayers for years of budget deficits, warning Canada’s most populous province could be in for a “long, slow grind” before it swings back to true economic recovery.

The scope of Ontario’s financial crisis is underscored by its sputtering economy, so closely tied to the United States.

The province’s gross domestic product, a key measure of economic health that represents the dollar value of all goods and services produced, stood at $508.9-billion in the second quarter. That’s roughly the same size as it was in 2005, meaning Ontario’s economy has not grown in the four years since. Government revenues are also now back at levels they were that year.

Since peaking in the fourth quarter of 2007, real GDP has shrunk 5%.

Corporate tax revenues have plunged over the past year as the recession took hold. That in turn will make it more difficult for the province to dig itself out of a deficit position by 2015 as promised.

Ontario is not alone however. Based on the most recent estimates compiled by TD Bank Financial, the federal and provincial governments combined are on pace to tally a deficit of $85-billion in fiscal year 2009-2010 on an aggregate basis, representing 6% of GDP.

TD Bank says the real shortfall could top $100-billion as governments revise their estimates higher. Tackling the deficits will be made tougher by the likelihood of a historically slow rate of GDP growth nationwide and age-related spending challenges like seniors’ benefits, the bank said in a report released Tuesday.

Exactly how Ontario intends to sustain its public services while restoring a balanced budget is still unclear. The province spent $4-billion to help rescue General Motors Co. and Chrysler earlier this year. It is running a deficit that’s roughly 20% of total revenues, according to TD -- the highest ratio of any province.
Ontario credit downgraded by S&P

The Financial Post is reporting Ontario credit downgraded by S&P after record deficit projection
The Ontario government had its credit rating downgraded one category by Standard and Poor's Ratings Services on Thursday in response to its recent projection of a record deficit and negative prospects for the province's economy going forward.

The province's rating was dropped to AA-minus from AA.

Last week the Ontario government said it expects to run a deficit of $24.7-billion in the current fiscal year, up from its expectation of $14.1-billion in March.

The bigger shortfall is largely a result of more money being spent than earlier expected, including $4-billion that's going toward auto-industry bailouts. As well, it expects now to get $5.8-billion less in tax revenues than previously anticipated as earnings for both companies and individuals alike have taken a hit from the recent recession.
Government To The Rescue

In an amazing bit of irony Ontario schools to teach financial literacy.
Starting in September, 2011, Ontario students from grade four to 12 will learn how to better manage their money in courses that will be integrated into their overall school curriculum in an effort to improve financial smarts.

“The global economic challenges of the last year have highlighted the need to ensure a financially literate population,” Ontario Education Minister Kathleen Wynne said in a statement.
The Globe and Mail had this iStockphoto to go along with its financial literacy article.

The person really needing financial literacy education is ...

Dalton McGuinty, Ontario's 24th Premier.

I have certainly been wrong about when Canada's housing bubble would burst for good. However, burst it will and when it does the pain will be no less than what has happened in the US.

By the way, with reckless spending everywhere, it is no wonder gold is soaring.

Mike "Mish" Shedlock
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