When there is a RE bubble, the price/rental, price/income, house debt/GDP ratio will no longer make sense. Just like in a stock bubble, P/E ratio or P/FCF or EV/EBITDA etc all will no longer make sense. I have no doubt that there is a bubble, but it is hard to tell how long it will last, even as at today.
As in general, the root cause of Vancouver and Toronto's RE bubble is low interest rate and hot money from China. The interest rate is the major factor while the hot money is the minor factor. If interest rate goes up, the bubble will pop for sure while cut off the hot money may only cool the bubble.
Interest rate: For a foreseeable future, there seems no reason for interest rate to go up. The only viable one could be if CAD$ keeps going down, then Bank of Canada have to raise interest rate to save the currency. Any way, low interest rate is a global issue which creates asset bubbles at many places. I feel that when it indeed starts to raise, it will raise sharply. And so is the inflation.
Foreign money: Toronto's RE had a price increase of 30% lately which is correlated with Vancouver's 15% foreign tax introducing. Now since Toronto got the tax too, the money should spread to some other places like Calgary or Montreal etc. However, it might not as so obvious as in Toronto. I feel the tax most like just be able to cool it down a little bit as evidenced in Vancouver. The reason is (1) Foreign buyers count very little in volume. (2) They might find ways to buy pass that, there are so many Chinese who is resident of Canada. (3) Even with the 15% tax, people might still want to get in. The problem is CAD to RMB is so low and China's RE is more than just in bubble. Toronto's RE price is still way lower than comparable China's first tier city.
Eventually, according to the credit bubble theory, once the credit taker can't even make up the monthly interest payment and needs to keep refinancing at a higher amount, that is the stage for a bubble to blow even without a pin. It is hard to tell that Toronto's RE is in that stage.
However, it doesn't means the bubble won't pop now. Without a pin, some other events might trigger the pop as well. Mainly through the tighten of new credit. When a homeowner can't refinance existing mortgage, he/she will be forced to sell it. Once the sales overpass the demand, then the price will drop. As currently the falling of Home Capital, it sure will tighten the sub-prime mortgage lending space. Part of its business will be grabbed by Equitable Group as it already been that since the 2014 fraud explode at HCG. If Equitable is also getting a funding trouble, then this will trigger the whole sub-prime space. Although HCG and EQB together takes only a few percent of the total mortgage space. But they are the most fragile part. Most prime mortgage owner actually won't be in trouble unless interest rate raise. But sub-prime borrower need to refinance at some point. If they can't refinance, then there will be a forced sell.
Is it possible to foretell when a bubble popping happens? Unlike stock or other commodity, RE is the biggest family finance item. If one can afford, homeowner won't sell their property even the price goes down 50%. Only when one forced to sell their property, that is the trouble begins. Then price will drop, then loan delinquency will shot up. The force sell% is the probably the most useful indicator in a hot RE market. Unfortunately, it is hard to get those data.
To short something hot is super difficult. A lots of short seller start to short Canadian bank 3 years ago and got burned. Short selling is very different than long a stock. I feel a good strategy is to short them one by one. It might be much safer to short a stock when it is in real trouble although its price might has down 70% already. Currently I feel HCG is more suitable target than EQB.
Another thought is current RE might be just indicator of future high inflation and perfectly reasonable. Just like pouring water into a pot of soup. The top got diluted first and eventually the whole pot will be diluted. The RE might just the top layer. Our cash might be on the bottom. It might worth much less that it looks like right now. How to protect our savings from inflation is something always in my mind.
Several targets:
1. Canadian Big 5 Banks
Those are not suitable to short right unless there is a big melt down in RE. Might be able to use some index as well. Need to study.
2. First National
Google Finance
The company also doing the prime mortgage like the big 5. Majority of its mortgage are insured and secularized. It is hard to tell whether credit loss will affect the company or what is the funding structure. It is more close the big five. However, it is solely concentrated on mortgage also it has some sub-prime. So if there is melt down, the company should get hit first. Need more study.
3. Genworth MI Canada Inc(TSE:MIC)
Google Finance
The company is probably the only public traded mortgage insurer. Current 90% of value its insured value is re-insured by CMHC. It sounds great. But if there is a credit loss, it seems still responsible for the 10% which is big number for them. If there is melt down, it will be hit before any prime writer.
4. Home Capital Group Inc(TSE:HCG)
This is the weakest and it most likely will down to zero.
5. Equitable Group Inc.(TSE:EQB)
Web Site
Google Finance
Filing
May. 3, 2017
Current Price: $46
1.Basic Information
(1) History
(3) Management.
(4) Debt and Credit facility.
(5) Insider holding, options, Insider trading info, share buy back.
(6) Employee numbers
(7) Auditor
(8) Industry comparison.
(9) Major events
Recently after the run on HCG, it suffered over $200m saving withdraw as well. Since it entered $2 billion credit with major bank at $0.75% commitment. Interest rate is bank's cost of fund + 1.25% which is close 1% higher than its current GIC rate. Also, its HISA hiked interest 2 twice thus 0.5% higher than before now. The loan collateral with $1.2 for each $1 mortgage that cherry picked with low mortgage balance remaining.
The $1.2B deposit of Equiable bank seems from 30k company. Ave: 40k/person.
The $1.2B deposit of Equiable bank seems from 30k company. Ave: 40k/person.
3. Short reasoning
(1) It is very likely the company will have a funding issue as well. I don't believe anyone would continue to invest in sub-prime GICs given the sudden fail of HCG. HCG's GIC holder probably the most anxious investor in Canada. Second will be those EQB's GIC holder.
(2) If they need to enter more new financing, the term it can get will be at best the same as current. Which is hardly make any profit. Also since it is cherry picked and with $1.2 per $1 collateral, at best it probably can struck several billion more of those financing.
4. Risk
(1) HCG recovered well. This will boost their GIC holder's confidence.
(2) Steve smith or Big finance or government intervene.
5. Conclusion
Need to watch closely the development of EQB. (1) The balance of its GIC drops. (2) When it starts to draw from the $2 billion facility.
6.Links
July 13, 2017
Currently EQB is around $55/share, down some what but still higher than previously discussed.
(1) Surprisingly BOC raised interest rate by 0.25% yesterday. I feel it was nothing about inflation or economy. Just the government want to prepare for future rainy days and protect the CAD$. It is not a surprise if we view historically Canada will follow US in rate actions. It is possible for another 25 bps increase this year and 50 bps increase in 2018.
(2) Now prime rate is 2.95%. Variable mortgage rate is up accordingly, still low at around 2%. 5Y fixed rate is up by at least 0.5%. It might not be able to pop the bubble though. But it definitely will slow things down.
(3) OSFI issued new B-20 guideline which should in force by October. New guideline will force uninsured mortgage to go through 5Y rate stress test. Also it will ban bundled mortgage which some sub prime lender use right now.
(4) Currently there are 14m household in Canada, around 10m own properties and around 6m household own mortgages. Total debt is around $2.05 Trillion. Total mortgage is close to $1.46 Trillion. Average $250k/mortgage. Total consumer credit is around $580B. There are around $220B in HELOC(Home Equity Line of Credit) with 3m household. Average $70k/household. $150B in auto loans. Rest probably $120B ?? in credit card debt.
(5)Among the 3m HELOC account, 80%(2.4m) are combined in readvanceable mortgage. In my view, this actually made a lots of mortgages kind of interest only. If one can't pay down principle of mortgage, it can always draw from the HELOC part. The total loan principle will be the same. Total HELOC accounts account for 40% of total mortgage accounts. HELOC and raising price should both contribute the record low mortgage default rate.
(6)The new B-20 might have much bigger effect of the mortgage market than the rate increase. Especially for the poorer borrower. Just don't know how many will be unable to get new mortgage or renewal. Need to watch closely. Overall, the mortgage market since HCG in trouble has changed quite a bit. It had already made trouble for some people who previously has no problem to get mortgages.
July 13, 2017
Currently EQB is around $55/share, down some what but still higher than previously discussed.
(1) Surprisingly BOC raised interest rate by 0.25% yesterday. I feel it was nothing about inflation or economy. Just the government want to prepare for future rainy days and protect the CAD$. It is not a surprise if we view historically Canada will follow US in rate actions. It is possible for another 25 bps increase this year and 50 bps increase in 2018.
(2) Now prime rate is 2.95%. Variable mortgage rate is up accordingly, still low at around 2%. 5Y fixed rate is up by at least 0.5%. It might not be able to pop the bubble though. But it definitely will slow things down.
(3) OSFI issued new B-20 guideline which should in force by October. New guideline will force uninsured mortgage to go through 5Y rate stress test. Also it will ban bundled mortgage which some sub prime lender use right now.
(4) Currently there are 14m household in Canada, around 10m own properties and around 6m household own mortgages. Total debt is around $2.05 Trillion. Total mortgage is close to $1.46 Trillion. Average $250k/mortgage. Total consumer credit is around $580B. There are around $220B in HELOC(Home Equity Line of Credit) with 3m household. Average $70k/household. $150B in auto loans. Rest probably $120B ?? in credit card debt.
(5)Among the 3m HELOC account, 80%(2.4m) are combined in readvanceable mortgage. In my view, this actually made a lots of mortgages kind of interest only. If one can't pay down principle of mortgage, it can always draw from the HELOC part. The total loan principle will be the same. Total HELOC accounts account for 40% of total mortgage accounts. HELOC and raising price should both contribute the record low mortgage default rate.
(6)The new B-20 might have much bigger effect of the mortgage market than the rate increase. Especially for the poorer borrower. Just don't know how many will be unable to get new mortgage or renewal. Need to watch closely. Overall, the mortgage market since HCG in trouble has changed quite a bit. It had already made trouble for some people who previously has no problem to get mortgages.
