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May 19, 2016 | Surprise!

A best-selling Canadian author of 14 books on economic trends, real estate, the financial crisis, personal finance strategies, taxation and politics. Nationally-known speaker and lecturer on macroeconomics, the housing market and investment techniques. He is a licensed Investment Advisor with a fee-based, no-commission Toronto-based practice serving clients across Canada.

 

For some time this pathetic blog has  warned you to get ready for higher interest rates. Lock into a five-year mortgage at a cheapo 2.4%. Buy some preferreds because they’ll reward you as the cost of money rises. And be careful about peak house, since there’s an inverse relationship between prices and rates.

Of course, everyone ignores me. Nobody believes it’ll happen. Especially the Millennials who were back-stroking down the birth canal the last time mortgages cost double-digits. The universal refrain goes something like this: the government will never let it happen since we’d all be screwed. Nobody can afford to pay more. It’d be a disaster. No way Justin’s allowing it. Grow up.

Well, here’s the truth.

Interest rates are going to rise. First in the US, and then here. Not immediately, and not severely. But enough to rattle a few million complacent Canadians who have driven household debt to historic levels without increasing their incomes. Oops.

Any lingering doubt was erased this week when the American central bank released its latest set of internal minutes showing most decision-makers there was to raise rates in June or July. This comes after the last increase in December, and means there’ll be at least two rounds in 2016. Big news.

The bond market was caught off guard, so yields spiked and prices dropped. The stock market was flummoxed, too. Prices fell to six-week lows. Forex guys were jolted. The greenback surged in value and our loonie sank to almost 76 cents US. Commodities slumped. Like the moist Millennials, financial guys had talked themselves into a status-quo-forever mindset in which cheap money keeps fueling asset values.

That’s exactly why it’s going to end. The Fed has a lot of smart people in it, determined to take away the punch bowl before we all get too pissed to walk. (Vancouver’s already hammered.) Besides, the US is doing great despite weak first quarter growth numbers  – already starting to be reversed (April consumer spending rebounded sharply).

Inflation’s returned to exactly the level the central bankers want (around 2%). Unemployment’s plunged by half from post-recession levels and at 5% is considered to be right on target. Stock markets are just a hair off record levels, and lots of resiliency there. Car, house and retail sales are robust. Over 2.5 million new jobs were created in the last year alone. So the Fed document said it “would likely be appropriate” that the next increase happen in June. In fact it used the word “June” six times – just to hammer the point.

That doesn’t mean an increase on Wednesday June 15th is a slam-dunk. It ain’t. If the jobs numbers coming out in the meantime (or the trade data or consumer spending stats) suck, the increase will happen in July. But it seems evident now a summer rate hike is a done deal, which means there’ll be at least one more in the autumn and possibly another come winter.

Here, look at the latest odds after the release of this week’s doc. They went from 4% to 30% for a rate rise in June, while the odds for another later this year are touching 80%.

ODDS

So, the Fed has achieved its mandates of (a) restoring inflation plus growth and (b) achieving what it calls ‘full employment’. Whether you agree with this or not is moot. Up she goes. Any doubt of that was removed by key Fed official William Dudley. “If I’m convinced that my own forecast is on track, then I think a tightening in the summer, the June-July time frame, is a reasonable expectation,” he told reporters.

So what does it mean here?

Likely higher five-year mortgage rates later this summer and into the autumn, whether the Bank of Canada follows suit or not (and it won’t in 2016). That’s because lenders set those rates in the bond market, based on five-year Government of Canada bond yields, which certainly follow the US debt market. So, get used to that idea.

Second, the Fed never moves once and stops. The ‘one-and-done’ chorus we’ve heard from the macroeconomists in the steerage section of this blog is just as credible as their former cry that QE (government stimulus spending) would never end. It did. And now rates will rise for the next couple of years. Get used to that, too.

Third, history shows us that 92% of the time the Bank of Canada eventually follows US monetary policy because not to do so whacks the dollar, fosters trade issues and fuels inflation. This time it’s a sure thing, since we have a new T2 government committed to massive deficit spending for at least the next four years, which is as stimulative as, say, the Trivago guy. Especially if oil stabilizes (Goldman is calling for $50 average this year) and the PM stops hitting people.

So, there it is. I told you. And you scoffed. Bad dogs.

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May 19th, 2016

Posted In: The Greater Fool

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