Saturday, October 31, 2009

Have a Happy and Safe Hallowe'en

For those who would like some reading...

Further evidence our concerns about real estate, CMHC and a looming collapse are finally going mainstream. From yesterday's Globe and Mail, 'Easy credit, soaring prices raise new housing fears'.

  • "Canadians are buying homes at a blistering pace, binging on new debt. But all that cheap money can come at a high cost... Central bankers in the U.S. and elsewhere [have] indicated in recent months that once they decide it's time to begin raising interest rates, they may do so at a faster pace than consumers and investors are used to... [Meanwhile] novice buyers are jumping into surging real estate markets in Vancouver, Calgary and Toronto with little understanding that the value of the asset they covet can disintegrate."

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Friday, October 30, 2009

The Day After... so what now?

Yesterday was a significant day.

Besides the 80th anniversary of Black Tuesday, the day marked an important signpost on the winding road of interest rates.

As reported in Bloomberg, the US Federal Reserve's seven-month $300 billion treasury purchase program ended on Thursday.

The treasury purchase program was responsible for keeping interest rates artificially low in the face of global concern about the dollar, U.S. deficits, and the U.S. financial system.

Most importantly, lower interest rates have helped keep both Canadian and U.S. mortgage rates down, thus supporting the housing market.

Now questions abound.

What will happen to U.S. treasury rates, and by association the economy, housing, and asset markets, once this program ceases?

Will the US move to authorize more purchases?

Interestingly there is a possible political showdown in the offing with a couple of important dates on the horizon.

On November 4th the Federal Open Market Committee (FOMC) meets. This committee is comprised of the 'bigwigs' of the US Federal Reserve and most likely will discuss the timing for the exit from economic stimulation. The Committee will meet only days before the next G20 meeting.

On November 7th, that next G20 meeting will take place.

In attendance will be the BRIC nations (Brazil, India, and China) who will anticipate a cessation of quantitative easing (QE) and a commitment to establish a currency alternative to the US dollar.

The proposed alternate to the US dollar would take the form of Super Sovereign Currency. This is not an intended as an immediate substitute for the dollar as a reserve currency but rather an alternative in new commitments.

As for QE, back in the middle July at the USA/Chinese Washington Financial Summit, China supposedly struck a deal to buy US Treasuries so as to let the Fed back off their US Treasury instrument auction QE.

As I understand it, the BRIC countries, not China alone, have given the US until early November to deliver on that pledge. The most influential BRIC nation, China, has been clear in it's desire to see the end of the US Federal Reserve's policy of Quantitative Easing.

Will they get both of these things? The first indication will come on November 4th at the FOMC meeting.

Jim Sinclair, perhaps the most successful commodities trader of all time and a frequent CNN and CNBC commentator, has been counting down the days to these two meetings and November 7th in particular.

That's his picture at the top of the post.

Back in August, Sinclair postulated on his website that these meetings will be the trigger for a dollar collapse.

Sinclair argues that there is a conflict brewing between the US Federal Reserve and the US Treasury on whether or not it's time to end the financial stimulation. Sinclair believes Bernanke will loose the battle to Geithner, a development which will not sit well with China et al and Sinclair believes the fallout will be significant.

Sinclair reiterated this forecast on Tuesday.

Now make no mistake, Sinclair is a hard core gold bug and the gold bugs have been seeing the collapse of the dollar everywhere recently.

But even so, ya gotta love anyone who gives a definitive date for such a dramatic event and announces a "countdown to the implosion of the dollar" on his website almost three months in advance.

Sinclair believes the impact on the price of gold will be immediate. "I know $1224 and $1650 are certain," he says.

Just for the chutzpah value alone, it's worth watching to see what happens.

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Thursday, October 29, 2009

The Artful Dodger goes up the Hill

Bank of Canada Governor Mark Carney went up Parliament Hill yesterday to speak to the Senate Banking Committee.

And once again his comments are of keen interest to those who have a mortgage, are thinking of getting a mortgage or who want to guide their investment decisions in the coming turbulent times (let's face it, one person's bad news is another person's opportunity; it all depends on how you look through the prism of that half filled glass).

Carney used a portion of his presentation repeating what bloggers have been saying all year - that Canadians may be getting in over their heads in the purchase of homes.

(Click on image to enlarge)


In response the BOC will be conducting an 'analysis' of this excessive debt, particularly as it relates to buying homes.

In one of the understatments of the afternoon, Carney said that "exceptionally low" mortgage rates are what is luring Canadians into taking on mortgage debt to purchase homes.

And, as on the weekend, rather than accept any responsibility for setting this jar of honey out in the first place, Carney repeated his theme that this is all the fault of banks and Canadians who are borrowing...

"Over the lifetime of a mortgage, they [interest rates] will normalize so it's only prudent that people look through the life cycle of rates to ensure they are borrowing appropriately. And it's also appropriate and prudent that financial institutions [lenders] take that into account as well."

It prompted The Canadian Press to draw parallels on the current Canadian situation with the United States in their news story. They commented that, "high debt at extremely low teaser mortgage rates that eventually spiked higher - the so-called subprime crisis - eventually led to a collapse in the U.S. housing market. That triggered a financial crisis on Wall Street and the recession that swept around the world in the last 18 months." CP then noted that Carney turned his attention to what the BOC will do to address what seems to be a similar situation emerging in Canada.

Besides the aforementioned study, Carney cautioned that he was speaking hypothetically... but added: "If this were to persist, there are other options. The housing market is subject to considerable regulation and policy influence."

Obviously Carney could simply jack up interest rates, but his hands are tied in this area right now. The surging Canadian dollar is a threat to the Canadian economy. If the BOC did raise rates now, the Canadian dollar would be sent even higher (and crush any hope of a recovery). This is the only thing that prevents Carney from even considering the possibility of beginning to raise interest rates to more normal levels.

So what is he thinking of doing?

Carney wasn't prepared to play his hand but he did say that, "policy makers have the ability to influence financial institutions that issue mortgages, both through regulation and pressure, including the ability to change the terms of mortgage insurance."

Change the terms of mortgage insurance?

Things could get interesting.

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Historic note: It's October 29th, 80th anniversary of the historic stock market crash of 1929. Will superstitious Wall Street get spooked today and trigger the long expected correction of the current stock market?

MARKET UPDATE @ 8:40AM: TSX up 188 & DOW up 110.

MARKET UPDATE @ Close: TSX up 269.89 & DOW up 199.89.
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Wednesday, October 28, 2009

Non est Mea Culpa

Yesterday in Montreal, Bank of Canada Governor Mark Carney said that "we are awash in moral hazard. If left unchecked, this will distort private behavior and inflate public costs."

Oh really? And who put it there?

Moral hazard is an old bit of insurance jargon that describes how people misbehave when they think they are covered against risk.

For example, in Canada we have deposit insurance on the first $100,000 of our deposits. Because that money is guaranteed, what do we care if the bank should fail?

To hear Carney say that we are ‘awash in moral hazard’ is almost comical, considering he is responsible for a large part of it in the Canadian Real Estate market.

The Bank of Canada opened the moral hazard floodgates last year when they cut interest rates to zero and purposefully dumped cheap money into real estate. CHMC has a new report showing 57% of all real estate purchases this year come from first-time buyers (double the number from a year ago) and all of those first time buyers are putting down the minimum 5% - meaning they are all utilizing CMHC’s bank-saving insurance.

And because CMHC - a federal government agency - backs all these high-risk mortgages with taxpayer dollars, all the risk for making these loans is removed from the banks. It enables Banks to lend to people who don't have money and little prospect of paying their loans off. It enables Banks to give these high risk borrowers the lowest mortgages rates available despite the fact they have the highest default risk.

Why... because no risk accrues to the Banks because of the CMHC insurance. If you're looking for classic 'moral hazard' - there it is!

In case you don’t recognize what we have here – these are ’subprime’ borrowers and Carney's temporary, ultra-low interest rates are equivalent to US-style 'teaser' rates.

As we noted last week, Banks have been, "scrambling to get enough product to put into the federal government's Insured Mortgage Purchase Program over the months, and that may have translated into excessively generous financing terms."

That’s the PC way of saying Banks have bent over backwards to approve people for loans who shouldn't have been approved so that those mortgages could be sold off and securitized. All of which, by the way, is EXACTLY what was happening in the United States before their real estate collapse.

Having created the hazard, via cheap money and loose policy, Mr. Carney is now trying to rein it in.

Last week he warned that he expected "prudence" from mortgage lenders and from average Canadians who spent the entire year rushing to capitalize on record low mortgage rates by buying new homes.

"We remind people that borrowing is for the period you are going to borrow, not just for the moment you take out the loan... It's not my job to give investment advice to Canadians. But on the general point anybody, anytime they borrow for a longer period of time, wants to [ask themselves], 'can I sustain that borrowing over the course of that time? What happens when interest rates ultimately normalize?'”

That's Carney's way of saying that bankers and home buyers will be to blame if the bubble created by cheap money were to burst.

What a crock!

Watch this to be only the start of Mark Carney’s artful dodger routine as sets out to escape his own responsibility for the coming financial and real estate meltdown.

As Carney has said, higher interest rates are coming and he can see what lies ahead.

Non est mea culpa?

Bullsh*t.

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Tuesday, October 27, 2009

29.99 Reasons to Get out of Credit Card Debt Now

Back in March 2009, the Certified General Accountants Association of Canada (CGA-Canada) released a consumer survey on the topic of household debt and consumption in Canada.

It's results were frightening and the numbers have only grown since then.

The country’s accountants warned that families owed $1.3 trillion, most of which was personal debt on credit cards and LOCs.

The three main indicators of household indebtedness (debt-to-income, debt-to-assets and debt-to-net worth ratios) deteriorated significantly in the past two years and particularly during 2008 (the study was conducted at the end of 2008).

Canadian households were financing consumption activity and fuelling gross domestic product growth (GDP) with unearned money as households increasingly reach for credit to finance day-to-day living expenses.

The main cause of increasing debt for the majority of households was day-to-day living expenses with lines of credit and credit cards accounting for the largest proportion of consumer debt.

85% of indebted Canadians have outstanding debt on a credit card and one in ten families could not pay a $500 bill.

Scarily 79% of indebted Canadians were still confident that they could either manage their debt well or take on more debt load.

That was at the end of 2008. And with the appearance of an immaculate recovery in our real estate values, families in the home and native land have done just that - taken on more debt load throughout 2009.

It seems as if nothing was learned by anyone from the economic earthquake of Autumn 2008.

With that in mind, will anyone take heed of the warning flashing across the United States this month?

Before the recession began a little over a year ago, credit card companies were offering some of the most attractive rates and balance transfers ever seen. Many people were using credit cards to not just supplement their lifestyles, but many also began using these offers as a means of financing their daily expenses.

It made sense to transfer an 9% line of credit to a 3.99% fixed rate with a credit card company... that's quite a savings.

Borrower beware: those rates can change in a heartbeat.

We've already seen it in Canada. TD suddenly raised it's line of credit rates earlier this year. But that pales in comparison to what is happening with credit cards in the US.

As we speak, US banks (that were bailed out with billions in federal loans) are now rapidly changing the rates and terms of their previous agreements and driving more and more people and small businesses into financial crisis and bankruptcy.

The increases are coming in advance of new credit card industry regulations which are to take effect in February of 2010.

Without cause or conscience as to the potential consequences they are creating for their customers, interest rates are being jacked up dramatically. Since the beginning of the year, almost 60 changes have been made by nine different credit card issuers, many of which are APR increases.

In the last two weeks, Bank of America added an annual fee to some cards and Citibank has raised the APR to 29.99% for many cardholders as well as cancelled the accounts of customers holding some of their co-branded cards.

That's right, customers who were paying faithfully and honoring their agreements have simply had their credit cards cancelled.

Citibank customers received a letter in the mail stating that their current 9.24% APR would be increased to 29.99% in order to "provide customers with access to credit." Here is an excerpt from the letter which you can view here.

  • “To continue to provide our customers with access to credit, we have had to adjust our pricing. The terms of your account will be changing. These changes include an increase in the variable APR for purchases to 29.99% and will take effect November 30th, 2009. As always you have the right to opt out and pay your balance under your current terms. If you opt out, you may use your account under the current terms until the end of your current membership year or the expiration date on your card, whichever is later. At that time we will close your account.”

US blogs are littered with disheartening stories of consumers who have had fixed rates changed to variable rates, interest rates doubled (or tripled) and minimum monthly payments increased by 200%. Many of these people were pushed to the brink of bankruptcy, others are simply being fleeced.

And because of the cardholder agreements, you don't have to have been late, gone over limit, or done anything for that matter for a bank or credit card company to raise your rates, decrease your line of even increase your required minimum payment to twice it's previous amount.

Or worse, they can simply turn your debt into a demand loan and cancel your card.

But what about that new US credit card legislation coming in February 2010? Won't it prevent banks from arbitrarily raising interest rates into the stratosphere as Citibank has just done?

Not really. The new legislation will only prevent a dramatic hike on your current card. It will not prevent credit card companies from offering you significantly higher interest rates when your credit card expires or when you go online to apply for a new one.

This is a big loophole. And you can bet your buns no card will have an expiration date more than 12 months from the day it is issued.

If you check your credit card, the expiration date will likely fall within the next year or two. When that date arrives, your credit card company has every right to offer you the same 29.99% deal that Citibank offered its US customers, forcing you to either close your account or accept an extortionate interest rate.

Given everything that has happened to credit card users this year, this type of tactic may become common very soon.

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Monday, October 26, 2009

Is mainstream media finally starting to take notice?

A flurry in articles over the weekend and the breadth and depth of our nation's looming real estate crisis may be starting to gain attention.

Diane Francis, Editor-at-Large for the National Post, published this piece on the weekend.

  • "In March, CMHC was allowed to insure up to C$600 billion in mortgages, up from C$450 billion the year before, said a CMHC spokesman today... This is a looming problem which flies in the face of Ottawa’s smugness about its superior regulatory regime and Canadian banking conservatism. For starters, CMHC is as big as a bank and not regulated. It's a mortgage slush fund which distorts the market. It allows banks to lend recklessly without consequences... It rewards those willing to speculate with leverage and discriminates against those who are prudent."

In the same article, Accountant Derek Bruce worries that the Tories are allowing CMHC to become like Freddie and Fannie south of the border.

  • “Since CMHC is insuring so many mortgages, the banks have no incentive to test the credit worthiness of home purchasers. Then the mortgages can be neatly packed into MBS securities and have a CMHC 100% Canadian guarantee on the back of the investments thus insuring end-investors these papers are insured from loss.”

Meanwhile the Globe and Mail has been raising it's own alarm about CMHC.

  • "CMHC insurance helps to keep borrowing costs down for people with small down payments who would otherwise face higher interest rates from banks. That enables would-be buyers to bid more for houses, knowing that they won't be penalized for having a small down payment, and adds fuel to the housing market's soaring prices. CMHC's securitization programs, through which it effectively buys swaths of mortgages from lenders, free up space on banks' balance sheets, allowing them to give out more mortgages than they otherwise could."

As these stories were hitting the newsstands, Bank of Canada Governor Mark Carney issued a reality check that we have been trumpeting all year.

Speaking to CTV's Question Period on Sunday, Carney was asked if Canadians should lock in to five-year mortgage terms.

Carney demurred.

  • "It's not my job to give investment advice to Canadians," Carney said. "But on the general point anybody, anytime they borrow for a longer period of time, wants to think about, 'Can I sustain that borrowing over the course of that time? What happens when interest rates ultimately normalize?'"

The key word there, of course, is 'normalize'. The average five-year mortgage rate over the past two decades is 8.2%.

But that fact is lost on thousands of people who, as the Globe and Mail noted, are taking advantage of low. low interest rates and the ability to only make the minimum down payment of 5% to 'bid more for houses' than they could otherwise afford.

Many are buying (and borrowing) the maximum that a VRM at 2.25% will allow them to purchase.

This is why the press has spend the weekend reporting the clear warning that Carney has been issuing against taking on too much debt. Today's low interest rates will not last forever.

"People should manage their affairs prudently in anticipation that, at some point, rates will return to a more normal level. Obviously, rates are exceptionally low."

Somehow the Governor's warnings ring hollow as CMHC hits the $600 Billion mark. It's like the farmer who closes the barn door after the horse has already run away.

His actions, at that point in time, are useless.

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Sunday, October 25, 2009

Sunday Funnies, October 25th, 2009

(Click to enlarge)


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Saturday, October 24, 2009

The Quote of the Year

Decades from now, when Canadian historians reconstruct the financial morass that was the early 21st Century, they will cite October 22nd, 2009.

That was the day the Bank of Canada clearly acknowledged they could see what was happening, but were powerless to act.

On October 22nd, 2009 Bank of Canada Governor Mark Carney says he has “some concern” that the surge in the housing market is unsustainable, although for now the boom in home buying remains a significant factor in Canada's economic rebound.

(Say wha... ???? You know it is a huge problem but you won't intervene because it will crush our immaculate economic recovery?)

“We are watching the growth in consumer credit in Canada. We expect prudence from lenders. We expect, and we have confidence in, prudence from Canadians. We remind people that borrowing is for the period you are going to borrow, not just for the moment you take out the loan.”

Heaven help us.

Back on July 20th and July 22nd we talked about CMHC and the dangerous situation that was developing.

The housing market in Canada avoided a US-style collapse because the federal government of Stephen Harper's Conservatives in 2007 directed the CMHC to dramatically change its rules to create relatively very loose lending requirements.

In 2008, in an effort to further prop up the real estate market (when affordability nosedived), the Harper government directed the CMHC to approve as many high-risk borrowers as possible and to keep credit flowing.

These efforts combined with the Bank of Canada's historic low interest rates is what has kept the Canadian economy from crashing... and has prevented calamity in the real estate market.

CMHC described these risky loans as "high ratio homeowner units approved to address less-served markets and/or to serve specific government priorities."

This policy drew many Canadians, who otherwise couldn't afford to buy homes, into the market. As we quoted the BC Real Estate Association back in May, "first-time buyers were largely absent in the late fall and winter, making it more difficult for move-up buyers to sell their current homes." These combined efforts rectified that problem and, "the chain of ownership is now being oiled."

But that 'oil' was so disturbing that even bank economists themselves came out to state their concerns.

As we noted in our post of September 18th, Scotiabank economists Derek Holt and Karen Cordes said, "lenders have been scrambling to get enough product to put into the federal government's Insured Mortgage Purchase Program over the months, and that may have translated into excessively generous financing terms."

Holt suggested that in two or three years - or whenever the Bank of Canada increases interest rates - many of these mortgages would be at risk.

It's not hard to see why. The approval rate for these risky loans has gone from 33% in 2007 to 42% in 2008 and you can bet your bottom dollar it is even higher in 2009. By mid-2007, average equity as a share of home value was down to 6% - from 48% in 2003.

How can this happen?

Because over 90% of existing mortgages in Canada are "securitized." Mortgages have been pooled and then issued as new securities backed by the pool. They are called MBSs, or Mortgage Backed Securities.

(which, btw, is what was done with sub-prime mortgages in the U.S.)

Credit is still tight in the U.S. because no private investor has the stomach for such risky MBSs.

But in Canada, risky MBS's sell to eager investors. Why?

In order to find buyers for CMHC's securitized mortgage pools, the Government of Canada has put guarantees on them. All Canadian mortgages are guaranteed by CMHC (which means guaranteed by the government of Canada).

This high-risk maneuver is what allows money to continue to flow for mortgages. And banks dole out this money recklessly because they bear no risk if borrowers default; the loans are all guaranteed by the federal government.

This is how someone in the Lower Mainland can get a $550,000 mortgage with a phantom 5% down payment, a mortgage that can only work if he has two tenants sharing the house with him and if he keeps his interest rate at 3.79%

CMHC's easy-money resulted in a 9.3% increase in Canadian household debt between June 2008 and June 2009. And while real estate in the rest of the world is collapsing, house prices in Canada have actually increased. In some provinces there is a shortage of houses for sale because credit is flowing everywhere.

This massive mortgage scheme is keeping up the appearance of an economic recovery in our country and it is what is preventing the natural playing out of the recession in Canada.

Is there any chance the Bank of Canada will apply the brakes to this 'economic solution' because of the danger it plays in creating a US-style (sub-prime) mortgage situation?

Nope.

Carney is caught between a rock and a hard place.

He knows the policy is creating a time bomb in housing, but he can't intervene because he fears any intervention right now will destroy the fragile economic recovery that has set Canada apart from the United States and the U.K.

Instead Carney calls on banks and Canadians to exercise 'prudence', as if this will exonerate him from responsibility when catastrophe strikes.

The Governor dithers saying that, “obviously, consumer borrowing cannot not grow faster than the economy forever.” The BOC says it will opt to 'study' the issue instead of taking action. It will have more to say when it releases its review of the financial system in December. "In particular the BOC will break down the home buying by income groups to see if people might be taking out loans they won't be able to afford as interest rates rise."

Like Kevin Costner in the movie 'No Way Out', Carney runs around the corridors of power trapped like a rat in a maze as he desperately tries to delay and delay.

This is going to end badly and all Canadians will suffer for Carney's folly.

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Friday, October 23, 2009

Et Tu Bank of Montreal?

It's Bank Failure Friday again in America and today has the possibility to be a milestone day. Year-to-date failures are up to 99 and we await word from the FDIC on who will be lucky #100.

Speaking of bank issues, remember the rumours about Bank of Montreal trouble back in August? On the 22nd we made this post asking 'Is the Bank of Montreal in financial difficulty?'

Those questions are being raised again, this time by Moody's, the credit rating agency.

As you will recall back in August, Agora Financial's Dan Amoss claimed BMO was gaming its books and had been lying about its ability to pay shareholder dividends. As managing editor of the Strategic Short Report, a pricey Internet-based newsletter that provides 'tips' to subscribers on stocks that may be worth shorting, Amoss had issued an 'alert' about the Bank of Montreal.

Amoss said, "Mark to market accounting has not yet cut down Canadian bank earnings, because the Canadians have not yet accounted for the impending wave of mortgage, consumer loan, and corporate loan losses. They will by the end of 2009."

Amoss implied that BMO was suffering significant losses from it's loan portfolio and wouldn't be able to maintain it's dividend payments. He predicted that a dividend cut might come as soon as that week's August earnings release, which is after the August options expiration. That cut would start a sequence of events that would drive BMO's share price down significantly.

Amoss recommended, to readers of his newsletter, several market plays to take advantage of the situation.

By Sunday August 24th, the story became an honest-to-goodness Internet sensation.

In the options market on Monday the 25th, about 48,000 contracts changed hands, 34 times the usual daily volume.

The turnover included 3,405 calls and volume in the stock's puts outnumbered calls by a ratio of more than 13-to-1. The stock fell 3% during the day and the story caught the attention of the mainstream press as Bloomberg, Reuters, and several Canadian newspapers.

By opening bell on Tuesday morning the story washed-out as a non-event. BMO maintained it's dividend, announced it had increased profits; and news organizations found Amoss unavailable for comment.

We posted our disappointment in Amoss' disappearing act. It seemed like such a tremendous opportunity wasted by Amoss and Agora. Here you had a ton of attention focused by the mainstream press on Amoss. This is the type of situation tailor-made to create a market oracle.

One blog dog agreed with me and commented that "I think they were just trying to play hysteria on the Internet and create a self-fulfilling prophecy. That's why Amoss wouldn't meet with the press. He didn't have a real case. If he did, he would have done exactly what you suggested."

Agora Financial issued a statement defending Amoss and said, "Of course, there's always a chance Dan’s pick is either too early or wrong. That's the nature of speculation."

Did the jury of public opinion pass judgement on Amoss prematurely?

Renown credit rating agency Moody's Investors Service has placed BMO debt on review and says it may downgrade the bank's debt due to weaknesses in its U.S. operations

The recent period of financial and economic stress has revealed weaknesses in the bank's U.S. business, Moody's said. BMO's U.S. operations have had two consecutive years of losses, and in all likelihood 2009 will mark the third, it said.

“BMO's review for possible downgrade comes at a time when the bank has persistently reported lower risk-adjusted profitability, relative to similarly rated peers due to net losses in its US businesses,” said Moody's senior vice-president Peter Routledge. “Furthermore, a prolonged period of above average credit costs could intensify pressure on BMO's profitability.”

The U.S. accounts for nearly one-quarter of BMO's loans. The bank has about $41-billion in U.S. loans, compared to $124-billion in Canada.

Maybe Amoss wasn't quite the flake so many wrote him off to be. The next quarterly earnings reports could be interesting.

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Wednesday, October 21, 2009

So what, exactly, happened yesterday in the stock market?

Why did the stock market drop so dramatically in the last hour of trading yesterday? Here's the story from Bloomberg:

  • "Oct. 21 (Bloomberg) -- U.S. stocks tumbled in the final hour of trading after analyst Dick Bove downgraded Wells Fargo & Co., erasing an earlier rally spurred by better-than-estimated results at Morgan Stanley and Yahoo! Inc. Wells Fargo, the largest U.S. home lender this year, slid 5.1 percent after Bove of Rochdale Securities cut the shares to “sell” and said earnings were boosted by mortgage-servicing fees rather than improving business trends."

Okay... so what?

First off you have to appreciate that Richard Bove is a screaming bull when it comes to the major banks in the United States.

More importantly, he's highly respected. Tim Smalls, head of U.S. trading at Execution LLC in Greenwich, Connecticut had this to say about Bove, "he has a very good following and very long track record of consistency.”

But that's not the best of it. Bove - cheerleader of major bank stock and shill for the likes of Fargo - was on CNBC yesterday morning raving about Wells Fargo.

Then he saw Fargo's numbers.

Faithful readers will recall we thoroughly eviscerated Wells Fargo back in April when the Bank stunned the world by proclaiming it had just finished its most profitable quarter ever. To say we were incredulous is an understatement

And when Bove saw Fargo's most recent report, he (finally) came to a similar conclusion and dramatically switched his assessment of Fargo from "buy" to “sell”; a stunning turnaround from someone who had just that morning been singing the bank's praises.

Bove said the “most disturbing” thing about Fargo’s results is that loan losses seem to be accelerating. Assets no longer collecting interest climbed 28% to $23.5 billion from the second quarter, while the reserve to cover future loan losses grew by $1 billion from the second quarter to $24.5 billion.

What they mean when they say "assets no longer collecting interest", they mean foreclosed homes that no one is paying back anymore. They're UP 28%! And Fargo is has INCREASED the reserve for future losses to $24.5 billion. That represents a potential of almost $50 Billion in loan losses (the size of Canada's record breaking deficit).

The fact of the matter is that the US banking system remains basically insolvent as unemployment soars and the economy worsens. People are walking away from their homes in the United States in record numbers as home prices continue to nosedive.

And what the Wells Fargo numbers tells us is that the loan losses that the major US banks have been hit with are STAGGERING and the problem continues to worsen.

Meanwhile many banks continue to play a sleight-of-hand game by creating a shadow inventory of unreported foreclosed homes. These are homes that are sitting empty because their mortgage holders have walked away but the banks haven't 'officially' foreclosed on them.

They do this in a vain attempt to stem the glut of product hitting the housing market and driving down prices.

These shadow inventories are still incredibly high and hide the full extent of the housing collapse in the United States.

Fargo has only admitted to $23 billion of bad loans. What does that number look like when you include Wells' shadow inventories? We're willing to bet Fargo's reserve of an additional $24.5 billion doesn't even begin to cover it.

The banks recent record profits are a sham because (as pointed out in April) the government has allowed them to use manipulative regulation and accounting standards to play a shell game that allows them to defer taking the losses from the housing bust (mark to market, among others).

It's like they are pretending it never happened.

And as you may recall, the burst in the stock market after quantative easing was announced was propelled by Wells Fargo and their announcement of 'record profits'.

Back in April we said, "the more information that comes out, the more disconcerting the stability of the bank appears. Watch for Fargo stock to drop like a rock when complete financial statements come out. And with it could go investor confidence in the latest market rally."

That reckoning may not fully play itself out yet... but one thing is now very clear; it's coming.

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Uh-oh

Depression talk is gaining steam again.

The blog-o-sphere is a tither today about the last hour of trading on the stock market in which the market suddenly reversed course in the final hour of trading.

Analysts attribute the tumble to a downgrade of Wells Fargo & Co.

Fargo, the largest U.S. home lender this year, slid 5.1% after Bove of Rochdale Securities cut the shares to “sell” and said earnings were boosted by mortgage-servicing fees rather than improving business trends. Wal-Mart Stores Inc., the world’s largest retailer, tumbled 2.1% after saying it expects a “tough” holiday shopping season. The Standard & Poor’s 500 Index reversed a 0.9% advance as nine of 10 industry groups retreated, led by financials.

“Wells Fargo’s downgrade spooked investors,” said Michael Nasto, the senior trader at U.S. Global Investors Inc., which manages about $2 billion in San Antonio. “Investors are concerned because that’s one of the biggest in the industry and most of the recent news has been positive so far. So that could be an indication of problems ahead for other big names.”

And those 'problems' are significant.

Jobs: The United States continues to lose jobs month over month. And, while the statistics being released are showing a slow down, many are coming to the conclusion that this is basically a fabrication. There are thousands of people falling off of unemployment compensation each week — none of them are reflected in the official numbers. Shadowstats.com estimates unemployment is above 20%. These numbers are rapidly approaching the unemployment rate during the 1930s.

Credit: As we noted yesterday, credit is contracting. The last decade in America has seen credit (or debt, however you want to look at it) essentially become used as a second income. No more. The banks may be getting billions in loans, but for the individual on the street, credit is frozen. Couple this with the loss of primary income streams and you have a lot of people with no money for even essential goods.

Real Estate Foreclosures: Foreclosures in the US continue to mount. In addition to the foreclosures of the last 2 years, millions more are in play right now, regardless of the mortgage programs the government institutes. Job Loss + Credit Contraction means there is no way millions of people will be able to make their monthly payments. Nowadays, once you lose your job, you aren’t going to have an easy time finding a new one that adequately services personal debt. In real terms housing prices are not done dropping. There are some conservative down-side estimates that say an additional 15% is likely. But, what if they are underestimating? What if it turns out to be 30%, or more?

Japanese real estate lost 80% (adjusted for inflation) in the 1990’s and so did their stock market. Fears that the United States is rapidly travelling down an identical road are starting to influence observers.

Defaults: Debt defaults keep rising. Bank of America just released their numbers and lost upwards of $2 billion dollars, due in part, to credit card defaults. This is not the sign of a healthy consumer. When a consumer defaults on a credit card, that is leading indicator that they will not get easy credit if they need it in the future. A default in 2009 is a big red flag for lenders. Empirically, this seems like it may be a leading indicator for continued credit contraction on the consumer side.

Small Business: Small businesses are getting hit hard. Small business is the engine that runs the entire US economy. Right now, they have no access to loans, and the consumer is drying up. To survive, they’ve had to cut costs significantly. The next step will be to cut jobs. Many have already resorted to letting people go. As much as owners may not want to let go of their people, they realize they have no choice at this point. Incidentally, many major corporations showing “better than expected” results employed these same strategies. But, the businesses themselves, not necessarily by choice, are perpetuating the negative feedback loop. As they lay off employees, more consumer income is destroyed, leading to fewer revenues across the board for a majority of businesses, big and small.

Middle Class: The Middle Class is holding on for dear life. If small business drives jobs and production, it is the middle class that drives consumption. And the middle class is getting hammered for all of the reasons mentioned above. Many middle class families are realizing, or will realize very soon, that their lifestyle choices are going to need changes. Cut out the gym and take a jog instead. Why pay $100 for cable when you can get similar, if not better, news and movies online for $30 a month? Is organic really necessary at the grocery store when one can save 30% buying the regular stuff we grew up on? Do I really need to get a new car when my 2005 Explorer is just fine? Why go out and spend $100 when dinner and a movie at home a couple of Fridays a month saves enough money to pay the electric bill? These and other questions are going through the collective mind of middle class America. They are desperately trying to avoid becoming a member of working or under class America. The initial step to maintain stability is the same as with small businesses - cut spending.

Combine all these factors and more and more analysts are drawing parallels to 1930/1931.

Trends Forecast founder Gerald Celente, a noted business consultant and author who makes predictions about the global financial markets, is gaining followers for his conviction that these are the opening states of 'the Greatest Depression'.

And with the way the market dropped in the last hour of trading today...

...many in the blog-o-sphere are sounding the alarm that investors should be on high alert for the rest of the week.

Investor emptor!

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Tuesday, October 20, 2009

Economic Recovery?

Yesterday we said, "It's not hard to see that if we don’t get a dramatic recovery in the economy, Canada is going to be in deep trouble." And on the weekend 'economic recovery' was the main topic of discussion at our Rainforest Roundtable.

Despite the belief in the mainstream media that the economy is starting to turn around, we just don't see it happening.

Why?

Because access to credit in the United States, our largest trading partner, is being denied at an accelerating pace.

Large, well-capitalized companies have no problem finding credit. But small businesses, on the other hand, have never had a harder time getting a loan.

According to prominent banking analyst Meredith Whitney, available credit to small businesses and consumers has contracted by trillions of dollars since the onset of the credit crisis over two years ago.

Small-business credit has contracted at one of the fastest paces of any lending category. Small business loans are hard to find, and credit-card lines (a critical funding source to small businesses) have been cut by 25% since last year.

Unfortunately for small businesses, credit-line cuts are only about half way through. Home equity loans, also historically a key funding source for start-up small businesses, are not a source of liquidity anymore because more than 32% of U.S. homes are worth less than their mortgages.

Why do small businesses matter so much?

In the US, small businesses employ 50% of the country's workforce and contribute 38% of GDP. Without access to credit, small businesses can't grow, can't hire, and too often end up going out of business.

What's more, small businesses are often the primary source of this country's innovation. Apple, Dell, McDonald's, Starbucks were all started as small businesses.

Whitney notes that, as is true in most recessions, banks' commercial lending portfolios shrink as creditworthy customers pay down their debts and the less-worthy borrowers are simply denied loans. Banks, in other words, want to lend only to those that don't want to borrow. Challenging as that may be, in the last cycle small businesses at least had access to their credit cards.

Small businesses primarily fund themselves through credit cards and loans from local lenders.

But in the past two years, credit-card lines have been cut by over $1.25 trillion. During the same time, 10% of all credit-card accounts have been cancelled. According to the most recent US Federal Reserve data, small business lending is down 3%, or $113 billion, from fourth-quarter 2008 peak levels — the first contraction since 1993.

Credit cards are the most common source of liquidity to small businesses, used by 82% as a vital portion of their overall funding. 79% of small businesses surveyed tell the Small Business Association that credit-card lending standards have tightened drastically and their access to credit lines has decreased materially.

Whitney believes that the US is only in the early stages of the second half of this credit cycle. She expects another $1.5 trillion of credit-card lines to be removed from the system by the end of 2010. This includes not only the large lenders reducing exposure but also the shuttering of several major subprime credit-card lenders. Beginning in the fourth quarter of 2007, lenders began reducing available credit by zip code. During the past four quarters, lenders have cut "inactive" accounts (whether or not the customer viewed the account as a liquidity vehicle).

The next phase will likely be credit-line cuts as lenders race to pre-emptively protect themselves from regulatory changes associated with the Credit Card Accountability, Responsibility and Disclosure Act, passed in May of this year, and the 2008 Unfair and Deceptive Acts and Practices Act.

The relationship between the United States and Canada is the closest and most extensive in the world. It is reflected in the staggering volume of bilateral trade - the equivalent of $1.5 billion a day in goods.

But when your biggest customer can't buy your goods, it doesn't bode well for your 'economic recovery'.

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Monday, October 19, 2009

Never mind a collapse of the US Dollar, might we see a collapse of the Canadian Dollar?

Sitting outdoors at the sidewalk café in the wee hours of the morning its clear the seasons have changed from summer to autumn.

A late night fog descends in parts of the Village on the Edge of the Rainforest and one coffee compatriot scuttles away to procure a winter jacket. The dampness in the air has returned and it chills to the bone.

But more chilling than the night air is the realization that our nation could be setting itself up for a fall of epic proportions.

As we all know the real estate market continues to boom upward fueled by historic low interest rates. And it’s not just in BC.

Check out this graph from Jonathan Tonge over at www.americacanada.blogspot.com. It shows the total outstanding mortgage credit in Canada from 1980- April of 2009.

Debt, in Canada, has exploded. (Click on image to enlarge).

Next up is this chart showing outstanding residential mortgage debt as a percentage of salaries and wages. An ugly picture, indeed. (Click on image to enlarge).

It's not hard to see that if we don’t get a dramatic recovery in the economy, Canada is going to be in deep trouble.

And while we are told things are turning around and that we are on the cusp of recovery, the fact of the matter is that if you consider all of the structural problems in the U.S. economy, the root causes of what created the near debilitating financial and economic crisis still remain:

  • US Banks are still saddled with toxic assets,
  • US Housing prices are still 30% lower,
  • Foreclosures are still hitting new record levels,
  • Both US and Canadian budget deficits have ballooned,
  • And debt levels around the world have climbed.

As we have already said, this is a recipe for climbing interest rates.

Rates remain low for now because of evaporated consumer wealth, tight credit, and high unemployment… factors which have made deflation the immediate problem.

The government response: zero interest rates and "printing money"; central bank tools that are at work to prevent a deflationary spiral and to curb the housing implosion with low interest rates.

But as these policies threaten the US Dollar’s status as the world’s reserve currency and spark concern that it could result in a US dollar collapse, many Canadians look at events as solely an American problem.

One blog dog recently suggested, "Well, if the USD loses its reserve currency status and goes into free-fall we can only hope that the Canadian dollar decouples from it. Maybe we'll be saved somewhat by being a resource-based economy."

Would we?

Look at the size of Canada’s exploding household debt.

Is the stage being set, not only for a massive real estate collapse, but for a massive Canadian dollar collapse as well?

In past posts we have talked about the catastrophic impact spiking interest rates could have on real estate values. Rates comparable to the mid 1970’s will drive real estate values down by 50% or more.

Worse, such a collapse would trigger defaults and foreclosures comparable to what is happening in the United States right now.

Who will be on the hook for this?

As we have already discussed, CMHC currently guarantees more than $600 Billion dollars in real estate mortgages. And CMHC is the Canadian Federal Government.

If the Bond market forces interest rates significantly higher - and CMHC has to cover American style defaults and foreclosures – our current, record setting $50 Billion dollar deficit will seem like a cakewalk to the amount the feds will be on the hook for.

If that were to happen, international confidence in Canada would evaporate overnight. And the Loonie would collapse even faster than the greenback.

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Sunday, October 18, 2009

Sunday Funnies - October 18th, 2009

(Click on image to enlarge)












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Saturday, October 17, 2009

It's a madhouse...

"It's a madhouse!... a madhouse!!"

When I read this CBC story, the first thing that crossed my mind was Charleton Heston's famous line from Planet of the Apes.

Today's treatsie: this house at 3712 Prince Edward Street. Located on the east side of the City of Vancouver, it's about to be put on the market for the obscene asking price of $1.27 million.

Perhaps even more astounding is the fact that, although the house won't be officially shown until today, three buyers have already offered to pay full-price without having stepped inside the building.

"Nobody's seen it. I'm very shocked at that [response]," said owner Leland Burridge.

The photo above is from the CBC article. Here are three pictures taken from Google's new 'street view' function. Obviously when Google went by, the house was still being renovated - but the pictures give you a sense of how close the house is stacked up against it's neighbour, and how small the lot is.

(Click on image to enlarge)



For those who don't know Vancouver, the west side is the upscale part of the city. The eastside, with it's smaller lot sizes, is considered 'less desirable'.

'Less desirable' is apparently worth a whole lot more these days. One can assume, with three offers at asking price already, we will see this little piece of heaven go for at least $1.5 million.

But then... this is the land of the million dollar crack shack, isn't it?

A madhouse indeed.

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Friday, October 16, 2009

Greed is back.

I ran across a former co-worker today.

'Bill' (not his real name) and I hadn't seen each other in about five years and we caught up on things over lunch.

Back in 2002, Bill and another colleague ('Steve') had invited me to join them in a 'can't miss' venture.

Yaletown was just starting it's transformation and under construction was a new condo development at the corner of Seymour and Davie. Known as Tower 1, the Brava development was about to become available for pre-sale.

Offered at a 'bargain' $306 per square foot, Bill and Steve were planning on snapping up four of the two bedroom condos (two each). At 880 square feet, each two bedroom unit was selling for about $270,000.

Now, I didn't have $540,000 to spare and neither did they. But that didn't deter Bill. "All you need is $20,000," he said. "$10,000 per unit as a down payment."

The objective wasn't to actually complete the purchase. The plan was to sign an agreement to purchase (an 'assignment') and then in six or eight months, sell the assignment for a profit.

It was my first introduction to condo flipping.

Bill was a very convincing. He had done this before and was ecstatic about the possibilities. Recognizing the early stages of a real estate bubble blowing up before our very eyes, Bill could see the easy money... and he made a convincing argument.

"Just get one," he urged, "and get your feet wet."

It was the lure of easy money... but I passed.

Was it a mistake?

Bill and Steve sold their four assignments for over $360,000 per unit just 8 months later. After fees, they each netted over $120,000 each for their efforts.

Not a bad return for their $20,000 investment over eight months.

Bill came back to me with another project the next year, this one in Tinseltown. Your humble scribe declined on that one as well.

It was an attractive gamble, I said, but what happens if the market collapses?

Bill would have nothing of it. It was a "license to print money". After that, we lost touch.

As we know, the real estate market exploded upward for the next few years. Hundreds of others followed Bill's idea and condo developments sold out everywhere within hours of opening their pre-sales centre. Long lineups were the norm and each new development sold out faster than the last; each one an 'event' profiled on the local evening news.

And then the real estate market crashed.

My friend Bill?

With each passing year, he took his profits and leveraged more and more pre-sale purchases. Things were so good, he quit his job and turned to real estate flipping full time.

When the market crashed he had 34 assignments on the go.

Worse, Revenue Canada began tracking down assignment sales and he was audited... apparently the government expected that these profits should be declared as income at some point.

In July, Bill declared personal bankruptcy.

After a messy divorce, he's currently trying to rebuild his life.

Does he regret his choices?

Yes and no. He certainly wishes he had moderated his greed and managed his affairs better.

Coincidently a faithful reader has sent along a copy of an email offer he received from Ozzie Jurock today.

Greed, in real estate, is apparently back in vogue.

From the email:

  • THE REAL ESTATE MARKET IS BACK.
    LEARN HOW TO GET INTO THE MARKET AND GET READY FOR 2010.
    LAST COURSE OF THE YEAR.

    Real Estate Action Weekend Special 2 for 1!

    Stop procrastinating - Take Action!
    Be recession proof - Take Action!
    Learn how to do it! - Take Action!
    Real Estate Action!

    Learn how to flip Real Estate
    Learn how to invest in Real Estate
    Learn how to maintain and grow your existing Real Estate
    Be the creator of your OWN financial independence

    Start dreaming and achieving BIG!

    Join the Real Estate Action Weekend

    Real Estate Action Weekend Special 2 for 1!


If you choose to sign up, good luck. You know my thoughts on what's coming.

And remember Bill...

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Thursday, October 15, 2009

Innocence

Your faithful scribe attended a post-Thanksgiving turkey feast last night hosted by the youngest member of our little gabfest group we've dubbed the Rainforest Roundtable.

Being the only other member of our group in attendance, I attempted to avoid the topic of real estate with the largely thirty-something crowd.

Believe me... it was no easy task.

Here I was with a group of well employed, mid-thirties professionals who are all well into the 'Acquisition Years'.

You know the phase. That time of life when everyone seems to be gaining a husband/wife/partner, a house, a mortgage, in-laws, and maybe a baby or two.

And there I sat with my glass of pinot noir biting my tongue as a bizarre sort of group angst about mortgage rates unfolded.

They didn't talk about how big their mortgage debt is (and it's huge). They were all focused on the rate.

3.69, 3.49, 3.75... the numbers bounced around the room. Onc poor shmuck conceded he had locked in several years ago at 5.15. It elicited a group moan of sympathy, mostly from the women.

It felt eerily like some sort of AA meeting for homeowners.

All expressed concern interest rates will be going up. As such, each couple had locked into five year terms because they "don't want to deal with the stress". It seemed almost like a communal sharing of post commitment angst; all that rate sharing, boasting and moaning about locking in at higher 5 year rates as opposed to this year's low, low variable rates of 1.75 - 2.25% acting as some sort of group therapy.

And then they pressed me for my opinion.

Believe it or not, I repressed the urge.

Instead, I opted to try and focus on the positive: for while rates are on the rise from April (when they hovered at 5.25%) they are still far below the 7.25% reached in 2000.

You could have heard a pin drop.

"Holy sh*t, 7.25%!", one finally exclaimed after an awkward silence.

It appears even rates from as recent as nine years ago have become ancient history. Conversation devolved into more therapy - group rationalization that the government would never let such high rates happen to Canadians, to them.

I excused myself to go and mix a very large Crown Royal and coke.

Have I said things are going to end badly?

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Wednesday, October 14, 2009

Prelude to Real Estate Armageddon?

March 12th, 2009.

If you dropped into our little corner of the world wide web that day you would have seen this post titled 'All New Ground'.

  • Increasingly it is becoming clear we are living in a once-in-a-multi-generational time...We have never had this much debt, this type of real estate decline or such a rapid collapsing of employment all convergent with a worldwide financial meltdown and a rapid withdrawal of consumer spending.

    And because the entire world has been drawn into this maelstrom, the US Dollar continues to hold it's value...

    [But] a great many economists are concerned that the only solution that the US government seems to have for the current financial troubles is to print more and more dollars... [which] is set to trigger a collapse in the value of the dollar against real things such as gold and oil, if not against the other paper currencies.

    If that happens, the fear is that we will enter the next, much more serious stage of the financial crisis, in which falling currencies will push up long-term interest rates, which in turn will crush what's left of the world's financial system.

    If the dollar falls in value to the point where no one wants to hold it, North America will feel a tsunami of accelerating inflation as their currency buys less and less. And this time around "inflation has the potential to be worse than the double-digit rates of the 1970s", said Warren Buffet.

    So where are we headed? Is the inevitable result a currency crisis of historic proportions? It's all new ground.


History unfolds slowly. Seven months later, are we at the precipice of seeing this prediction play out?

The last few weeks have seen the start of that US Dollar crisis. And yesterday, that crisis racheted up a notch when it was revealed that, over the last three months, banks put 63% of their new cash into euros and yen - not the dollar.

This is almost a complete reversal of the dollar's onetime dominance for reserves.

According to Barclays Capital, the dollar's share of new cash in the central banks around the world was down to 37% - compared with two-thirds a decade ago.

Currently, dollars account for about 62% of the currency reserve at central banks, the lowest on record said the International Monetary Fund.

Investors and central banks are snubbing dollars because the greenback is kept too weak by zero interest rates and a flood of greenbacks in the global economy.

According to the New York Post, "Economists believe the market rebellion against the dollar will spread until Bernanke starts raising interest rates from around zero to the high single digits, and pulls back the flood of currency spewed from US printing presses."

Think about that statement for a moment.

"Raising interest rates from around zero to the high single digits."

That's 8% or 9% - which means your standard five year mortgage will run you 10% - 12%.

Remember last week we talked about how California had to raise the yields on it's debt sale to sell it's bonds?

This morning the impact of these moves in the bond market hit us here in Canada.

Each of Canada’s big banks this morning is increasing the cost of taking out a mortgage. While there were some differences in the details of changes made by the banks to their mortgage rates, the announced hikes put all their five-year fixed closed rates at 5.84%, an increase of 0.35 of a percentage point.

That's an overnight hike of 7% to five year mortgage rates.

And that's without any prompting from the Bank of Canada - whose historic low rate of 0.25% remains intact.

Why? Because the cost of money in the bond market is rising.

The stage is being set for an unavoidable outcome. And when people look back at 2009 they will look at this date as the day we began our march to Real Estate Armageddon.

Today's Independent newspaper in the UK notes that, "the willingness of foreigners to hold dollar assets as opposed to, say, euro assets has allowed American citizens to consume beyond their means for many years. Of course, it wasn't just the Chinese and the Russians who were lending to the US. Others did so via their purchases of US mortgage-backed securities (MBS). But if the collapse in the MBS market exposed the first chink in American economic armour, a rejection of the dollar as the world's reserve currency could expose an even bigger hole. If other nations begin to believe the US is happy to allow its currency to plummet, they may all head to the exit at the same time.

A dollar collapse would be a disaster all round. It would drive up the cost of borrowing in the US. It would leave the international monetary system short of stability and long of fear. It would unleash economic upheavals on a similar scale to those seen in the 1970s."


And you remember the 1970s, don't you? A period when interest rates floated for much of the decade from 11% to 21.5%

Interest rates that high in this day and age will trigger real estate Armageddon here in Greater Vancouver.

Guaranteed.

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