Cedella Roman says she was jogging along the beach in White Rock when she crossed the U.S. border without realizing it. Then, she was detained.
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As one of Air Canada’s most frequent flyers, Eric Wong claims he once soared with the members of the airline’s Super Elite. But the Vancouver businessman is now suing the airline for allegedly clipping his wings by revoking his special status.
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A reader sent me this article last week, and I found it quite interesting.
I’m not here today, with the benefit of hindsight, to provide any sort of “I told you so,” but rather to look at why real estate bears like Garth Turner, or Hilliard Macbeth, thought that the Canadian real estate market was set to crash – before it more than doubled in many places.
Cynics will point to the profits these bears have made from directing followers and listeners away from real estate, but there simply must be reasons for their predictions, right?
In this article, Mr. Turner provided several…
(This is a transcript of the March 24th, 2006 article in its entirety)
The real estate boom is over. You may or may not like that news,but it is now official. I am calling the eight-year-long housing lovefest, finito.
Done like dinner. Does that mean housing prices are going to start spiralling lower, with a rerun of the equity-busting days of the early 1990s? Should families who have concentrated most of their wealth in their homes be panicking?
Hardly. I see no storm clouds on the horizon. But neither do I see the weather conditions that would allow prices to keep on rising. And there is one overwhelming piece of news that,more than anything else, should tell everyone that real estate is an overvalued commodity ripe for correction.
This past week my friend Peter Vukanovich,who came to visit me a few days ago in my MP’s riding office, pulled the trigger. His company, Genworth Financial, has now become the first mortgage insurer to cover 35-year home loans. That goes one better than CHMC, which three weeks ago said it would insure 30- year-long mortgages. And the country’s best-known mortgage guru, whom I spent time with as well last week in the boardroom of a Toronto law firm, told me in hushed tones he is preparing for the advent of the 50-year mortgage.
What does this mean? And what’s the big difference from today’s normal 25-year mortgage amortization?
Simply, it is this: Mortgages have always been very large debts for people to pay,and in order to make them more affordable, the payments have been spread over a long period of time – usually 25 years. The effect of this is that monthly payments are brought down,but the amount you end up paying back rises. At today’s interest rates, with a 25-year am, you actually pay the lender about twice what you borrowed – almost $580,000 in payments on a $300,000 mortgage.
So, when the payment period (that’s the amortization part – based on the French verb ‘to kill’) is extended, then the same formula kicks in, namely, lower monthly payments and a greater amount actually repaid. In the case of that $300,000 mortgage and a 35-year amortization,monthly payments fall from $2,000 a month to about $1,700, but the amount you dish over rises by $135,000, to a substantial $712,000.
So, why does this show the real estate market has peaked and is about to hit the down escalator? Simply because this is the third major indicator that housing prices have passed the ability of the average family to afford them. And anytime that transpires,the writing is on the garage wall.
First we have had the unprecedented use of the 5 per cent down payment program. Genworth’s Vukanovich told me in our meeting about the tens of billions in mortgages his company has just insured for buyers in that program – in fact, this is where almost all of the mortgage growth is. Not good. Buyers putting up 5 per cent of the price of a home and mortgaging 95% are doing the same things as stock market junkies snapping up securities on margin. The only way they make money is if the asset rises in value,and quickly. So far the 5 per cent down crowd have done very well, since their extreme leveraging has paid off in a rising market. But if housing prices move in the opposite direction, their tiny little bit of equity can evaporate in a week or two, leaving them with nothing but a sea of debt. Oh yeah, and a home they “own.”
The second indication this is a market living on somebody else’s oxygen was the announcement some months ago that several of the banks would lend money to people who don’t have any — hence, the zero-down mortgage. Borrowers with good strong employment earnings, but no savings, suddenly qualified to buy houses they could not afford. Need I say more? But, actually,there is more – because boutique lenders will now give you enough money for 100 per cent of the purchase prices, plus more cash for the closing costs and a new plasma TV.
So, here we have the third indicator – amortizations which have gone from 25 years to 30, then to 35 years and quite possibly now to fifty. This is irrefutable proof that houses at these levels are unaffordable if you play by the rules that have influenced real estate supply and demand for the last three generations. And layer on top of that the effect of five recent mortgage rate increases, with the prospect of a couple more to come, and you can see what’s going down.
Over the last year, Vancouver house prices rose 26 per cent. In Calgary, 24 per cent. In Toronto, just 6 per cent. I would argue that the inevitable correction in real estate prices has already started in the GTA and will soon be spreading west. In mid-town Toronto right now, you have to spend $1.3 million to buy an 80-year-old brick house on a street full of the same houses, on a 30-foot-wide lot with no garage. And this is not an area of wealthy millionaire families, but rather working couples with public school-age kids. They may live in million-dollar homes, but they quite often also have million-dollar mortgages.
The only way they’ll make money on those houses is if they find somebody to pay even more. And behind that indebted buyer will be a generous lender. And behind that lender, a creative insurer. And you don’t want to know what’s behind him.
Again, thanks to a reader for finding this 12-year-old article and sending it my way.
I’d be remiss if I didn’t mention what you all already know…
The average Toronto home price in March of 2006 when this article was published was $353,134. This past May of 2018, the average was $805,320. That’s an increase of 128%.
The Canada-wide HPI Benchmark Index sat at $307,700 in March of 2006, and has risen some 108% to $637,500 this past month.
But let’s get that out of the way. I’m pretty sure Mr. Turner doesn’t care anyways.
I’m more interested in his reasons for the impending “end” to the real estate boom, and how looking back, they were so right – even though they were completely wrong.
What I mean is, he identified issues in the market that, he thought, would be troublesome.
And looking back, many of these issues were noted and acted upon by the Finance Minister and/or CMHC (making Mr. Turner right), and yet the market still continued to climb (Making Mr. Turner wrong).
Mr. Turner first noted that buying with a 5% down payment was a problem, as it would leave buyers “owning” their homes with a 95% debt-load. Perhaps he wasn’t wrong in identifying this was an issue, considering the changes that have been implemented by the CMHC since then:
1) Minimum 20% down payment over $1,000,000.
2) Minimum 20% down payment on investment and/or second properties.
3) Increased down payment requirement on mortgage amount from $500,000 – $999,999 from 5% to 10%.
The second point that Mr. Turner made was about 0% down mortgages, and even cash-back mortgages. In 2007, I had a client buy with the 107% financing plan, whereby he purchased for $1,000,000 and provided a $50,000 deposit cheque, and upon closing, was given the $50,000 back by the lender, plus another $20,000.
But these programs were long done away with, as the minimum down payment requirements above explain.
The third point that Mr. Turner made was actually two points – first about the increase in amortization periods, the second about the five consecutive hikes in mortgage rates.
Amortizations did reach 40 years, but then came back down to 25 and 30. Most buyers out there right now look for, or can only qualify for, a 25-year amortization. The 30-year product still exists, but isn’t nearly as prevalent. As for the potential “50-year amortization,” I had honestly never heard of this as a possibility until I read this 2006 article. I don’t know how close this was to ever becoming a reality.
As for the increase in mortgage rates, and prediction of subsequent rates, Mr. Turner was hypothesizing here. Or if you want to try to get into his head, based on his feelings on the market, he might have been catastrophizing. Adding potential increased rates to his other qualms would only make the fire burn brighter!
Looking back on this article twelve years later, and knowing Garth Turner’s track record, and history of disastrously-incorrect predictions about the real estate market, I’m actually going to come away giving him more credit than I previously did.
His predictions, at least, were based on ‘problems’ in both the real estate and mortgage markets, several of which were rectified.
As I said, it’s ironic (or more disastrous for his predictions) that increasing down payment regulations and shrinking amortization periods didn’t make the market turn and run the other way.
But I have to give him credit for putting this into print – even before the housing crisis in the United States began two years later.
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