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Negative real rates in the past have always led to asset bubbles.
David Rosenberg Chief Economist and Strategist for Gluskin-Sheff makes the case here via Zero Hedge
and Lance Roberts of Street Talk Live.
Rosenberg's Potemkin (fake) Rally "coffee table" presentation at the 10th annual Strategic Investment Conference presented by Altegis Investments and John Mauldin, is loaded with charts and he makes a persuasive argument for a sea change.
Says Rosenberg: "There has been a secular decline in Potential GDP (U.S.) growth. Here is a question for you. How does 1.8% GDP growth rate over the last year drop the unemployment rate by 60 basis points from 8.1 to 7.5%? That math simply doesn't work."
"The growth rate of GDP has fallen significantly and this should not be ignored. Historically, the economy could grow at 4% without creating inflation. With the current makeup of the economy today that is no longer possible. This is why we are likely witnessing the early stages of the transition from deflation to inflation and the end of my “love affair” with bonds."
"One of the factors that will be supportive of an economic push will be the end of the (U.S.) household deleveraging cycle. I think that the end of the deleveraging cycle is about 2 years away. As you can see in the next slide borrowing has started to rise once again and will be a tailwind for the economy. This has been the primary goal of the Fed’s QE programs - boost asset prices to stimulate consumer confidence and borrowing."
"There is a problem though. Productivity growth is heading lower because of lack of capital formation. However, unit labor costs are rising which, as I said, has a high correlation to inflation. The bad news is that rising wage costs negatively impact profit margins." AND "Here is the problem currently. The real fed funds rate is very negative. The last time this occurred was when Author Burns was Fed chairman (1970's, prior to the Volcker 1980's era of mega interest rate increases to kill inflation)."
"The following two decades were not kind."
Rosenberg goes on to suggest: "These are the areas that should perform the best should this longer term view of the world begin to develop":
Remember, Roesnberg's view is U.S. centric and the U.S. has already witnessed a huge correction in real estate and a massive financial market sector bail out; something we have not seen in Canada.
Canadian real estate in the bubbly metro markets do not have positive yields and if we are to see a shift to rising rates as Roseberg suggests, then yield chasers don't need the risk of a "slow asset" like real estate.
I track Canadian "real" interest rates here
, and they did shift to rising two years ago and are up over 200 beeps. That's a potential sell signal.
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Chanos on China
The 2 panel graphic to the left is from an 18 panel presentation "China: The Edifice Complex
" from Jim Chanos Kynikos Associates at the April 5, 2013 Wine Country Conference.
Jim notes that China's capacity over investment (Cement 12%, Steel 10%, Autos 18%) through 2008-2012 is leading to asset depreciation liabilities via the law of diminishing returns and that the pervasive growth of credit is leaving banks poorly capitalized for potential losses.Overheard:
- “GDP figures are ‘man-made’ and therefore unreliable, Li said.” Li Keqiang, 1st Vice Premier China US Embassy Cable March 15, 2007 - Wikileaks December 4, 2010
- “To some extent, this is fundamentally a Ponzi scheme.” Xiao Gang, Chairman Bank of China “Regulating shadow banking” China Daily, October 10, 2012
- “The bubble must be controlled, or both the real estate market and domestic economy will be jeopardized” Wang Shi, Chairman China Vanke “Vanke boss sees bubble in spike” Standard, January 29, 2013
- "The government has already been considered untrustworthy, let alone businesses…" Chinese Netizen “Chinese companies trusted in China, says US report; Nope, Say netizens” China Times, February 6, 2013
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"Hong Kong Chinese are leaving Vancouver by the thousands"
According to the The Vancouver Sun April 17, 2013
Huh? A west-east carry trade? Sell Vancouver, buy Hong Kong? Nope. As far as Vancouver is concerned it's a population driven event from the excess and worried wealth of Mainland China. The Vancouver Sun quotes an April 13th story in the South China Morning Post "mainland Chinese arrivals in Vancouver outstripped those from Hong Kong by 7,872 to 286 in 2012."
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Supply-Demand Imbalance"There’s perhaps never been a better time to sit on the sidelines and see how things shape up over the next year from the comfort of your rental condo."
That's a quote from Ben Rabidoux in The Globe and Mail's April 17th post "Is Canada’s condo boom coming apart at the seams?" Here are some snippets with respect to the ballooning inventory level of condos:
Ben Rabidoux is a Canadian analyst and strategist with U.S.-based Hanson Advisors, and author of The Economic Analyst blog.
- TORONTO: "growing supply-demand imbalance ... through the rest of the year and into 2014"
- MONTREAL: "the greatest supply-demand imbalance currently exists... growing rapidly"
- OTTAWA: "current supply-demand imbalance ... resale price of condos slumped"
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IV The Blow Off Phase
Source: Hofstra University Global Studies & Geography
"Bubbles can be very damaging, especially for those who arrived late with the hope of getting something for nothing. Even if they are inflationary events, the outcome of a bubble's blow off is very deflationary as large quantities of capital vanish in the wave of bankruptcies and financial defaults they trigger."
"The bottom line is that recessions are a normal condition to a market economy as they are regulating any excess, bankrupting the weakest players or those with the highest leverage. However, one of the mandates of central banking is to fight a process (business cycles) that occurs "naturally". The interference of central banks such as the Federal Reserve (and the Bank of Canada and CMHC who subsidize the cost of money at Tax Payer's expense) appear to be exaggerating the amplitude of bubbles and the manias that fuel them. It could be argued that business cycles are being replaced by phases of booms and busts, which are still displaying a cyclic behavior, but subject to much more volatility."
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GUEST EDITORIALby Rick Ackerman
MAR 27, 2013 Real Estate Bounce Setting Up a Second Crash
U.S. home prices are rising at the fastest pace since before the real estate crash, according to the Case-Shiller Index. Data for January showed a 10-city composite up 7.3% over the last 12 months and a 20-city index gaining 8.1%. A bullish sign for the housing market? More like a death rattle, we’d say. In our estimation, the collapse in residential real estate prices begun in 2007 is only halfway to a bottom, implying that valuations will eventually fall a further 35% from their 2007 peaks.
Check out the Mountain View, CA home pictured above if you want to know why, even after the real estate collapse of 2007-09, California home prices in particular are still egregiously out of line with incomes.
We rented this house from 1995-1999 for about $2400/month before moving to Colorado like so many other Californians seeking twice as much home for half the price. The three-bedroom rancher was worth about $525,000 at the time, and we wondered who would be so foolish to buy it at that price. With just 1150 square feet of usable space and a small back yard, it had sat unimproved since 1952, when it sold new for around $12,000. The only feature in the house that might be considered an upgrade was the quiet-flush toilet in the half-bathroom. Otherwise, fixtures, carpets and structure were original and well worn. Termites could be heard munching on the garage.Unbelievably, the home is currently valued at $1.1 million on Zillow.
Anyone who buys it at that price would have to be either crazy, extremely desperate, or confident that a greater fool would eventually appear when it’s time to trade up.
In 1952, this was a blue-collar neighborhood. By the time we arrived in 1995, however, nearly all of our neighbors worked in high-tech jobs in Mountain View (today the home of Google), Los Altos, Menlo Park and Palo Alto. A typical couple had a Honda Civic with an MIT decal on the back window and a hefty loan from their parents, who themselves had borrowed against homes that had been bought and paid for. Software engineers in the area were making from $80,000 to $150,000, but even workers at the high end of that range, especially couples with children, wouldn't have much left over for frills. Our kids went to a highly rated elementary school across the street, in the Los Altos District whose close proximity supposedly added $100,000 to the value of homes nearby. Los Altos proper, just up the hill, was out of reach for mere software engineers, since basic 2BR homes went for around $1.8 million in the late 1990s.A Little Dumpy
There are of course high-tech hot-shots living in the Bay Area and on the Peninsula who can easily handle a $5000 monthly mortgage payment or rental. At the southern edge of San Francisco, an easy commute down the Peninsula, they've bid up real estate prices to New York City levels. But for most Bay Area workers, even those in the $100,000-$250,000 range, the best housing they can afford would be considered dumpy in just about any other region of the U.S. As a consequence, renters and buyers alike stretch affordability not only until no discretionary income remains, but no savings cushion for emergencies or unforeseen expenses. This is living on the edge, and when it describes as many lives as it does in the Bay Area, the implication is that even a small downturn in the economy – never mind a recessionary bust or an uptick in Fed-suppressed mortgage rates – could cause a collapse in real estate prices that would ripple across the country.
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In Vancouver we have the same problem of high, very high expectations. This listing on the west side (the 'good' side) of Vancouver is asking $1,198,000 and is described as:
"Cute 1729sf Kitsilano 3 bedroom, 2 bathroom starter home on a 33' x 122' lot. Nicely updated approximately 17 years ago, including a large 1 bedroom basement suite, double glazed windows, hardwood floors, kitchen and double garage. Well maintained home ideally suited to live in, hold, or eventually build new."
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U.S. Earnings Update
"The analysts at Sentier Research (a company that provides demographic and income analysis, run by former Census Bureau officials) note that median income has been depressed recently by inflation. While inflation is still quite low, income growth has been so weak that even very little inflation is enough to wipe out whatever gains households are seeing in their paychecks. The longer-run trends are even more depressing." Read the full article at Economix New York Times
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From The Economist March 16, 2013 "After more than five years of financial turmoil, some stockmarkets are back to, or close to, their pre-crisis levels. Stockmarkets rose until mid-to-late 2007, and even into 2008, before the severity of the financial crisis hit them; their troughs were in early 2009. Last week the Dow Jones Industrial Average surpassed its previous peak (though it is still around 7% off once inflation is taken into account). The S&P 500 and Germany’s DAX are expected to reach all-time highs soon. The FTSE 100 is near its 2007 peak, which was only 3% shy of its record high in December 1999. Not all stockmarkets have recovered to this degree. Greece’s Athex composite index is still more than 80% below its peak in October 2007."
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The current animal spirits are still feeding off of debt and Canada continues to be a leader in leveraging it. Canadian credit market debt is now 165% of disposable income (Statistics Canada March 15, 2013).
Canadian household debt continues to trend higher (chart left).
As can be seen from the chart above in the upper panel on stock and commodity markets, not all stock markets are back to their pre-blowout highs of 2007-08, most are not. Nor are the commodity markets back to their 2011 highs. Unless they breakout, as a minority of stock markets have, then the trend for commodity prices is still down. The combination of falling commodity prices and rising debt levels is not a successful investment model.
Real estate prices will follow commodity prices as new houses come on stream at prices below existing built houses. As credit risk gets re-examined, replacement value, comparative value and income value will all point to a return to fundamentals.
Yahoo! Interview of David Stockman Feb 4, 2013
David Stockman the former director of the Office of Management and Budget in the Reagan Administration on the topic of whether the current "U.S. housing recovery" is one. According to David Stockman:
Bloomberg reports that: Blackstone (BX) has spent more that $2.5 billion on 16,000 homes to manage as rentals. It’s now the country’s largest investor in single-family homes to manage as rentals, with properties in nine markets. And Blackstone is joined by others like Colony Capital LLC and Two Harbors Investment Corp. (SBY) in trying to turn this market into a new institutional asset class.
- “I would say we have a housing bubble...again.”
- “We don’t have a real organic sustainable recovery because in a world of medicated money by the central bank, things aren't what they appear to be”
- “It’s happening in the most speculative sub-prime markets, where massive amounts of 'fast money' is rolling in to buy, to rent, on a speculative basis for a quick trade,”
- “And as soon as they conclude prices have moved enough, they’ll be gone as fast as they came.”
Stockman argues the problem in housing is the two forces needed for a recovery, first-time buyers and trade-up buyers, are missing. With the combination of 7.9% unemployment and staggering student loan debt, he
doesn't see a young generation of new home buyers coming into the market. And with baby boomers heading for retirement with less than adequate savings, he thinks they’ll be trading down with their homes, not up.
As for the "American Dream" of home ownership, Stockman argues the past model where the government was trying to get to 69% home ownership was a huge policy mistake that led to no-down payment loans, liars loans, and a degradation of lending standards. He says the government should have no dog in the hunt when it comes to ownership versus renting. “Let the market decide,” Stockman says.
February 4, 2013 Lauren Lyster of Yahoo! Daily Ticker Interviews David Stockman: Full text and 4.59 minute video interview here
CLICK TO ENLARGE House Price to Rents
According to The Economist: Canadian housing is 78% over valued;
while Japan is 37% under valued. Notice the U.S. housing market is tabled at 7% undervalued which is supporting the bullish argument to go long U.S. housing. But as we know, it's a market of markets and as trite as it sounds, location trumps price when it comes to comparables.
As The Economist concludes: "Misalignments with our gauges of fair value can persist for a long time, of course. That may spare countries where house prices have clearly overshot from a painful bust, but it may also mean that some markets end up mimicking Japan’s long descent and badly undershoot. At some point, central banks will have to take away the balm of easy money. If housing markets remain so fragile when they are getting so much help, they may break when it is removed
." Read the complete article at The Economist.
CLICK TO ENLARGE U.S. House Price Trend 2013
Nadeem Walayat over at the MarketOracle.com has a bullish argument for going long U.S. real estate.
His US House Prices Forecast Conclusion is:
"The embryonic nominal bull market of 2012 is morphing into a real bull market for 2013 and with each subsequent year, expect an accelerating multi-year trend that will likely see average prices rise by over 30% by early 2016 (10% per year), which translates into a house price forecast based on the most recent Case-Shiller House Price Index (CSXR) of 158.8 (Oct 2012 - released 26th Dec 2012) targeting a rise to 207 by early 2016 (+30.4%)."
Nadeem bases his timing argument to go long U.S. real estate on:
- House prices have put in a bottom.
- House inventory is at a low.
- Price momentum has broken out to the upside.
- U.S. GDP is growing.
- Unemployment is falling.
- "ZIRP" until at least 2016.
- Nominal Wages are rising.
- Immigration will create new demand.
- Debt ceiling gives way to printing presses.
- A Mega Inflation Trend is overwhelming deflation.
Read Nadeem Walayat's full analysis here
CHPC.biz readers will be aware I have been warning that the deflation risk is much greater than an inflationary one here in Canada and as I remarked in a Jan 10, 2013 BNN interview
when asked where in Canada real estate investors should look, I replied; "Investors should apply the income approach when evaluating any potential buy to discover if there is a return on investment, and that is not in Toronto or Vancouver.
My advice would be the same to anyone looking in the U.S. Make sure the buy price is low enough and the net income stream is high enough to produce a real yield (get my free spreadsheet evaluator here
). Otherwise if Nadeem is wrong about his inflation bet, you could wind up with a decaying illiquid asset that you have to subsidize.
An historic saga of betting against deflation and being on the wrong side of the inflation-deflation cycle is the Equitable Building in New York
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Warning 5 days Later
Don't get too excited about the current U.S. housing rally. The Lumber Index has rolled over and broken the 20 Day EMA to the downside. There is still no sign of wage inflation in the U.S. and without it, any move up in real estate price is probably just a speculative mirage.
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CLICK TO ENLARGE & Credit: Macquarie Private Wealth, James Price, 1Q 2013
Thanks to The Vancouver Price Drop
Over at the The Vancouver Price Drop, "An Observer" documents Vancouver real estate price movements.
Their unique overlay of the initial Vancouver drop onto the Case Shiller long term U.S. cities Price Index drop shows that Vancouver is so far tracking Miami's descent which after 28 months from their peak was down in price nearly 50%.
The Vancouver Price Drop Observer uses a compilation overlay of the Price Index data for Vancouver West, Vancouver East, North Vancouver, West Vancouver, Richmond, Burnaby and New Westminster as a good representation of metro Vancouver and this select area is down 11% on the overlay chart in 8 months.
On the CHPC chart
(Dec 2012 data) in the greater metro Vancouver area, average SFD's are down 15%, Townhouses are down 14% and Condos are down 12% from their peaks.
The Vancouver Price Drop, Observer remarks: "We are currently entering month 9 from the peak and can probably expect similar monthly drops (to U.S. cities) of over 1% per month. After 12 months of that, reality seems to set in that the bubble is popping and prices could potentially free fall. In the US the average city price descent tripled its pace for 18 months before their “soft (not) landing
Read the full report by "An Observer" over at The Vancouver Price Drop: Chart Here
and Data Analysis Here
(ps... the original Vancouver Price Drop chart on their site is in landscape aspect with conventional left-right and up-down axes. I portrait-ized the chart to fit this narrow CHPC blog template... the path remains the same)