Thursday, April 23, 2009

The Looming Mortgage Concern

In yesterdays post about the Anatomy of a Bubble, we mentioned that a crucial component to a return to rising real estate prices would be the availability of cheap, plentiful debt. And since debt loads are at historic extremes, what conditions will enable trillions more in debt to be issued to buy inflated housing?

The answer, of course, is that those conditions won't occur. Real estate values will continue their decline as the current wave of bottom fishers discouvers that these current prices (almost 15% down from peak) aren't the bottom of the market.

That's when the next domino in the collapse will fall: mortgage defaults by current property owners.

Sounding the alarm on this is the Canadian Association of Accredited Mortgage Professionals who released a report today that warns "Canadian mortgage holders are facing significant challenges, with an uncertain job market increasing the risk of mortgage defaults in the months ahead."

In a survey down by the Association, eight per cent of Canadian mortgage holders, representing some 425,000 home owners, indicated that being able to make a mortgage payment is currently an issue or concern. Meanwhile, another 18 per cent of respondents – "a surprisingly large share" – reported that either they themselves or a primary earner in their household had lost a job in the past six months.

And rising unemployment is the chief concern of the Association. "The greatest risk facing the Canadian mortgage market is job loss," says Will Dunning, chief economist for the association and author of the report.

While Dunning stresses that Canadians are in much better shape than their U.S. counterparts (U.S. households have less equity in their homes than Canadians, at 43 per cent versus 72 per cent), there are still about 2% of Canadians report negative equity in their homes (where the value of the mortgage is greater than the value of the home).

Another 8 per cent have less than 10 per cent equity, says the report.

"Negative equity becomes a more risky factor when households have difficulty making current payments or lose a job," says Dunning. "Without equity, households are unable to raise funds by borrowing against the home or selling the property, and they have reduced options for refinancing."

Then comes the kicker from the report.

If house prices were to fall further, there would be an increase in the number of home owners with negative equity, a situation many U.S. consumers now find themselves in. And if mortgage holders with negative equity were to lose jobs, "There would be a more substantial rise in the extent of mortgage affordability problems and possibly defaults," warns Dunning.

As we have already reported on this blog, BC has been hammered by the biggest wave of unemployment in the country. The prospect for the spring and summer is for the trend to intesify. The forestry industry has a lot of pain still to come, the tourism industry is going to be smacked hard this summer, the construction industry is in a steep downward spiral and the 'Olympic Bounce' will not materialize without a dramatic turn in the world economy.

The report says optomistically that the debt loads are largely sustainable, as long as Canadians don't continue to see substantial job losses and as long as house prices don't continue to decline.

But if they do, you can see how conditions are aligning themselves to intensify and accelerate the collapse.



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