Monday, December 13, 2010

Debt bomb goes off in the media

In case you've been under a rock for the past several years (or perhaps you've been following the greater fool's advice and have been building yourself a shelter in the woods, stocking it with gasoline, gold and hunting equipment so you can survive the coming "suburbageddon") you'll find it no surprise that the state of Canadians' debt levels have surpassed those of our neighbours to the south.

You can Google it for yourself, or you can let me do it for you, but either way you'll see some whopper stories in the media about how, jeez, who woulda thunk it?, the stimulus effect of hyper-low interest rates did exactly what it was intended to do but never said it would: caused spenders to spend too much and savers to look elsewhere for other opportunities.

Check this out:


That's right, in a country with less than 30 major urban centres, 248 news articles were generated about Canadians spending 150% more than they can actually afford if the taps to easy money weren't more open than the local convenience store. But that's not all, even those pesky Americans, hardly the bastions of prudent finance, have sat up and taken notice:


PMSH must just be tickled to be getting more airplay for the snowbirds down south, who out-flock to Florida in more significant numbers than they in-flock to BC. But there's more, with economic gloom clouding over over-spent Europe and hyper-inflated China, there must be some consequences for Canadian households, right?

 
Now before you all start crowing with "it's different here, we have prudent banks, Canadians are more conservative, yada, yadda, yaddda..." let me show you this:

At least we're better than the Greeks  spending more than we earn at a higher level than even the Greeks who must be the collective people within a nation state who's sense of personal responsibility when it comes to life and money is the lowest - these folks manage money believing holding a general strike can make them more of it.

Meanwhile, closer to home, December sales are on pace to come close to September's. Think about that.

29 comments:

Jack said...

The is the top headline on yahoo.ca:

"BoC warns interest rate hike will be swift, brutal"

If a simple headline doesn't set off alarm bells to people, then I don't know what will.

Go ahead and buy that new car, expensive house upgrades, big screen tv with credit and a 5/35 mortgage for dessert. Enjoy your stay at the slaughterhouse.

Russ said...

Long time lurker and always appreciate the varied points of view.

Before you jump all over me, I'm a bear believer and am not planning on doing anything for at least 12months.

But I saw a listing that I would love to vulture on when/if the Stuff Hits the Fan.

I'm wondering what you guys think of MLS# 286162, anybody looking in this price range or area? Marko I believe its been on and off MLS a few times recently, any idea if thats true or what it was originally listed at?

I've been out of the game for a while and I'm not sure what you could expect for that price.

Thanks in advance,

PS Loved reading the rumblings of more mortgage rule tightening today!

HouseHuntVictoria said...

Russ,

I've looked at that property. For the right price it could be a fixer upper's diamond in the ruff.

Russ said...

HHV,

Did you go through it? How long ago did you look? (wondering how long its been languishing on the market)

Leo S said...

Just like the wildcards on the way up (interest rates dropping to near zero) messed up many people's estimate of the timing of the housing crash, wildcards on the way down can really upset this fabled "balanced" market.

HouseHuntVictoria said...

Russ,

It has been on and off the market. PropertyGuys still has the listing up on their site at $737K.

Now it's down to $719K with a full agents commission coming off should it sell: $24500 + HST.

In today's market, that house should go for about $100K less IMO. Updates done right, that house could probably fetch close to $750K if nothing is wrong with it.

Just Jack said...

MLS# 286162 is mostly all land value. You're paying a premium price for the view. The value of the view could be 50 percent over that of a property with no view. So a vacant lot is worth $325,000 and the view premium is $162,500. Making the land worth almost $500,000.

Now lets say the market corrects 20% on the typical property. So, non view lots drop by $65,000. How much would this property have to drop to attract a buyer?

Nearly a $100,000. Buy waterfront or view properties at the bottom of the market - not at the top.

One more thing, these hillside lots that drop precipitously in the rear yard are murderous properties to sell in soft markets. You lose your biggest prospective purchaser - families. No back yard.

Like the home at 3619, which took 2 years to sell back in 2002.

ryleyb said...

I'm having trouble understanding the stats in those debt articles.

They're talking about debt-income ratio, and the debt portion includes mortgages, loans, personal lines of credit, and credit cards.

So say a family has a $100,000/year income, a $300,000 mortgage, and no other debts. Would that mean their ration is 3:1, or 300%, well above the ~150% quoted in the article?

I feel like it can't be that simple because there'd be no story there if it was :)

Reid said...

One has to remember that in the US a lot of financially responsible people hold large mortgages on their houses because their accountants tell them to. It is all based on them getting a tax deduction on their mortgage interest. There are many millions of American’s holding mortgages which could be paid off with their liquid investments. These same financially responsible people in Canada have long paid off their mortgages. So when you compare these debt levels to Canada, our debt ratio is far worse than it appears on the surface. I suspect our younger borrowers are much heavier indebted in Canada which will impact future consumer spending as interest rates rise.

Leo S said...

@ryleyb

That's right. The point is that this is an average for all people, including the ones that are retired and have no debt. And if you look at how the ratio has changed over the years you see the danger.

omc said...

Still more noise from the gov't on this. I am wondering if the gov't is going to do this to cool the spring market.

Talked to our realtor yesterday and he made sure to tell us about all the press releases and the likelihood of rules changing. Not to pressure us, but that things could get shaky.

DavidL said...

@Reid wrote: I suspect our younger borrowers are much heavier indebted in Canada which will impact future consumer spending as interest rates rise.

Interesting point ... I hadn't thought about how differences in taxation rules might affect debt.

Marko said...

Let's say you want to buy a Honda Civic. Out the door price is $20,000 with 0% for 60 months from Honda Financing or $19,000 cash deal.

You have $20,000 in cash but you rather invest the money and pay the extra $1,000 with the 60 month 0% financing.

Wouldn't the above scenario increase your debt to income ratio?

There are types of debt that make sense.

Just Jack said...

I've been reading about affordability again and I think a lot of people may not understand that there are no rules, there are just guidelines.

Like the debt service ratio of 32% to 40%. By adding tips and child credits, bonuses, etc into your income and not including expenses like daycare, that 32%/40% can really be gamed to get a higher mortgage.

And that 32% is the high end. Really if your paying $1,200 a month for rent now and just scrapping by, how are you going to pay $1,500? Even though thats 32%

The thing is that extremely few buyers, brokers or lenders follow these as rules, because if they did, house prices in Victoria would be a lot lower. So the house owner bleeds a little bit each month and add the loss to the credit cards. When prices go up they they can role the credit card debts into the mortgage and/or refinance at a lower interest rate and start over again.

And this is what we have been doing. But it's essential that property prices MUST increase for us to do this, and not at 2 or 5% a year, but at 10 to 15% a year. When the market fails to increase significantly each year, our debt load increases very very quickly. And that is what Flaherty is seeing. Out of control increasing consumer debt.

In the past Mr. Flaherty increased the amortization period in order to stimulated consumer consumption in the hopes that the world economy would be out of its recession and the Canadian consumer would be saved by higher incomes. OOPS, didn't happen and we are now in a worse condition than before the government stimulus began. So, now the cure is to reduce the amortization period. And that really means culling the herd and bringing down prices. Because high home prices are the enemy of this economy. The cure being to stimulated demand with lower prices - like what private enterprise does by discounting their stock prices.

DavidL said...

OTTAWA — Bank of Canada governor Mark Carney certainly used strong language on Monday to, once again, warn Canadians on the perils of gorging on cheap debt. And that attracted most of the attention, especially with data suggesting the debt-to-disposable income for households hit yet another record (148.1%) for the third quarter.

But the speech contained other elements that reflected on the economic outlook, the state of global imbalances and how the Federal Reserve’s controversial asset-purchase plan would likely play out -- at least in Mr. Carney’s view.

Here are the five things Mr. Carney also said outside of Canada’s insatiable appetite for credit.


From CBC.ca: Five other things Carney said

Lina Zussino - Victoria Mortgage Broker said...

@JustJack

Guidelines and rules are followed, the problem is that generally so much is left unsaid. The majority of public withhold a lot of information that is valuable to assess the true amount a buyer can borrow. (adding in daycare) A lot of times buyers don't even think of these other "little" things.

If the average Canadian is in debt by $25K and I know that doesn't include me and possibly you, that means that third person owes $75K, I think there really must be a problem with peoples financial education.

DavidL said...

@Just Jack wrote: In the past Mr. Flaherty increased the amortization period in order to stimulate consumer consumption ... So, now the cure is to reduce the amortization period. ... The cure being to stimulated demand with lower prices - like what private enterprise does by discounting their stock prices.

It seems that Flaherty (and his advisers) feel that the economy needs constant stimulation in order to stay afloat. To me, it seems that somethings is patently wrong with the fundamental building blocks of the economy if is requires constant tinkering like this.

Unfortunate side effects occur when stimulating the economy in order to ensure that banking institutions and markets maintain their value. The "average joe" continues to slide further into debt due after succumbing to real estate hype and buying in to unrealistic lifestyle exceptions.

I was watching "House Hunters" on HGTV the other day. There was a 24 year old nurse and her boyfriend (employed part-time) who were moving out of their parents home and buy their own made-to-order townhouse because they felt "they deserved it". I don't think the North American economy can handle this sense of "self entitlement" much longer ...

DavidL said...

@Lina wrote: I think there really must be a problem with peoples financial education.

I totally agree ... I think there ought to be a mandatory "Personal Finance 101" course that all high school students must take before graduation. (I know some schools are beginning to already do this.)

There was and interesting story on CBC's "The National" last night: a woman had accumulated $15,000 of debt on her credit card over the past year. She said debt just slowly built up. However, at the end of the segment the reporter said that the woman will be foregoing the three vacations that she took to Mexico last year so that she can work on paying off her credit card.

It seems that she was unaware that she was living far beyond her means. I think that she is fairly typical ...

Lina Zussino - Victoria Mortgage Broker said...

Fixed rates are going up again this week.

TD and RBC have already changed their rates. Some lenders have announced they are moving tomorrow. If you are looking to buy in the next few months I'd suggest asking for your rate hold.

Just Jack said...

Daycare is not a "little" thing that you forget. Its a big budget item. Try to get daycare for a 6 month old baby and you may be forking out a grand or more a month. After school care for kindergarten is about $200 a month.

The questions arises while taking a mortgage application. Is the broker responsible for not asking if there are any other family expenses or do they fill in only the required blanks?

Sometimes I think. "Hey you're over 19 and you think that you can manage the payments? Who am I to say you can't" Just because others in the past couldn't, doesn't mean that you can't.

So, should just the information from their credit report and no more be filled in? If the general public hold back information, is it part of due diligence to ask them for more information? If someone tells the broker about other loans not on the credit report that restricts their loan amount. Does the broker talk to them about not reporting those expenses?

As far as I know, the broker is under no further requirements than to report the basic minimum information. Ask no questions and I will tell you no lies.

So now you have the example of two couples bidding on a property. One that is bidding with all of their income and expenses reported and one that has held back information. Assuming both earn the same amount, who wins the house?

A 600K mortgage at 2% is affordable. A 300K mortgage at 6% is not affordable. So we shouldn't be talking about affordable "homes" we should be talking about affordable "mortgages" The issue is not buying a home, most of us can, the issue is "owning" a home which a lot of high ratio buyers in the last few years and those who have been pigging out on their home equity lines may never achieve.

So we sit here as bears and ask how can these people afford these homes? The simple answer is they can't afford the home, they can only afford the mortgage - for now. And if they are over mortgaged, they can only keep the home until their other expenses grow to large and that takes about 2 years. Because without appreciation, the market falls apart.

DavidL said...

@Just Jack wrote: A 600K mortgage at 2% is affordable. A 300K mortgage at 6% is not affordable.

I know what you are saying ... but with no money down and a 25 year amortization 600K @ 2% = $2541/month while 300K @ 6% = $1919/month.

However, look at how the monthly payments on a 600K mortgage grow as interest rates increase:

2% - $2540.71
3% - $2839.57
4% - $3156.12
5% - $3489.63
6% - $3838.84
7% - $4202.49

An 3% increase from 2% to 5% adds another ~$1000/month to a 600K mortgage -- which is another $300,000 of interest to be paid over 25 years!

Lina Zussino - Victoria Mortgage Broker said...

JustJack "little" that is what I indicated with the quotations.

No daycare is not little however buyers see it as a minimal expense and tend to oversee it because there is no report.

Even when you ask, people still exaggerate income and debt hence proof of income is required etc.

I had a client ask me why I needed his T1 the other day... ??? I hear you when you say affordable mortgages. I see people buy flashy houses because they can afford the mortgage, as a broker my job is to find the best rate/product suited for the applicant and advise them of their options.

Can they afford them? Sure they can. Numbers don't lie...

DavidL said...

Lina ... after getting proof of income for mortgage qualification - do you also ask for a credit check and compare with the mortgagee's list of stated debts?

I wonder if your clients are always forthcoming about debts and obligations such as alimony or child support payments, joint debts (such as cosigning a loan), and as Just Jack points out: daycare and after school expenses.

Alexandrahere said...

Re that house on Doncaster:

A friend of mine, albeit much older than me, built that house. He also built two others and the three of them are all in a row. He has since passed away as he was in his late 50's when he put it up. He was a good builder (father and son team), and built many "west coast" type townhouses in James Bay in the same era.

In remembering them and their layouts, it seems to me they had loads of windows all facing east and looking at Mount Tolmie. You wouldn't get much sun on the decks and the houses would be hard to heat. I believe they were all electric baseboard heat. Also, I remember I didn't like the bathrooms especially because they had these weird all in one looking fibreglass tubs and surrounds and I believe one was red.

Russ said...

@alex

Cool, ya I actually spoke with the neighbour and he was saying the 3 houses were built in the 80s by the same builder. The interior looks Very 80's (from the photos) and yes there is a goofy one piece shower thing. The place would need a lot of cosmetic work for sure. Also electric baseboards throughout. The lots are incredibly steep and the back half of the houses are basically built on stilts. You'd want a good inspection to check that its all sound.

I read with interest all the media re household debt levels. I believe the BoC or Gov't is laying the groundwork for some kind of rule tightening in the upcoming budget. What I haven't seen anywhere is an indication of what be coming. A lowering of amortizations or raising of down payments seems logical, has anybody read anything about what is being considered, or care to take a guess, or make a suggestion?

Lina Zussino - Victoria Mortgage Broker said...

Increasing down payments seems logical.. I agree, that should be the case. I definitely don't want to see increasing rates but that is wishful thinking!

@DavidL Do you also ask for a credit check and compare with the mortgagee's list of stated debts?

Yes, for sure, always. Debts are always more and over what they tell you. The credit report picks up joint debts or any co-signed loans.

You need to ask the questions. I generally know when people are hiding something.

Lina Zussino - Victoria Mortgage Broker said...

@DavidL Look at how the monthly payments on a 600K mortgage grow as interest rates increase:

Strategic inflation planning. Take the difference in today's monthly mortgage payment and the future rate (approx 5-6%) Divide it by 5. Add that amount to each monthly payment after the second year.

When you get to the 5th year, you have already absorbed the payment difference of 5-6%.Saving a substantial amount off the balance of the mortgage when you go to renew.

Marko said...

MLS: 286162

It was listed on MLS for 60 days starting at 759k and dropped to 745k during the same listing.

Relisted 19 days ago for $719,000

Looking at the pictures the home needs a complete renovation: windows, bathrooms, kitchen, flooring including hardwood and tiling in bathrooms, etc.

As far as heating you could put in a new gas fireplace plus a ductless inverter heat pump or you could go with in-wall force electric heaters which are more efficient than baseboards.

Issue with this house is over 700k + 100 to 130k reno = 800 to 830k and getting your money out would be difficult, especially without a suite.

Mindset said...

Marko said: Issue with this house is over 700k + 100 to 130k reno = 800 to 830k and getting your money out would be difficult, especially without a suite.

That's sounds like some good reasonable advice from a Realtor Marko. And in my experience over the past year, that's hard to come by. Nice.