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March 28, 2017 | Collateral Damage

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.

A precursor of the US real estate mashup was serious trouble at big lenders like Countrywide – famous for agents giving loans to people who could breathe and sign a document at the same time. Those days of pre-bust madness were characterized by falsified mortgage aps, NINJA loans (for folks with No Income, No Jobs and no Assets), interest-only payments, fat home equity borrowings and adjustable-rate mortgages, offering people ‘teaser’ rates for a year or two – just to get them into epic debt.

Of course nothing like that could happen here, right?

Hmm. Well, we have interest-only payments, a burgeoning HELOC industry, teaser rates and now the largest independent lender stands accused of application fraud. It also happens that Home Capital Group is Canada’s biggest sub-prime lender, doling out billions to people the banks found too deplorable to actually qualify as homeowners.

How serious is this? Are there lessons?

Serious enough that CEO Martin Reid ended up with a big boot mark on his pinstriped derriere Monday night as the company fired him. “Home Capital requires leadership that can bring to bear a renewed operational discipline, emphasis on risk management and controls, and focus on improving performance,” the board of directors said in a release, as the coyotes from the Ontario Securities Commission circled outside.

This was not enough to keep the company’s stock from being spanked badly on Tuesday, shedding more than 9% of its value in a single session, taking it back to 2010 levels. Home Capital has been an investment star for years now, soaring from around a buck a share to a high of $55 three years ago, before being pummeled back down to the $25 range now. There could be more blood coming.

The company has received an enforcement order from the OSC and the regulator is apparently unsatisfied that Home Capital did enough in response to evidence agents fibbed on mortgage applications for at least two years – handing out loans to borrowers who simply didn’t qualify to get them. About 45 brokers and brokerages were punted after the news broke, but it’s probably a safe bet that where there is smoke, fire’s not far behind.

The OSC has also served a number of company officers, directors and former execs with enforcement orders, which Home Capital admits are related to the NINJA-like fraud. Making matters worse is a class-action lawsuit that’s been filed against the company claiming it lied on public disclosures in 2014 and 2015, which helped drive company stock into the stratosphere and misled investors.

Mortgage changes brought in last October have already hurt HC, making those poor, house-horny moisters pass a mortgage stress test, knocking about a fifth of them out of the market. If Ontario makes good for a foreign buyer’s tax or a speculator levy in next month’s budget, there’ll be more grief at head office.

Is mortgage fraud and lax lending rampant in Canada, or is this just a company caught with a mess of rogue agents? How many clients actually received loans to buy houses they probably can’t afford? We’ll see. Meanwhile the real estate market continues to be driven higher by borrowers who can legally use credit cards for down payments or whose parental loans mask their income deficiencies. Realtors push values higher with blind auctions and engineered bidding wars, while lenders offer 1.99% short-term financing in a world where interest rates are destined to plump.

Meanwhile, CMHC’s decision not to offer mortgage insurance for homes above $1 million – in a market where the average is $1.5 million – means buyers are forced to have 20% down payments, a big chunk of which comes from outfits like Home Capital, and the rest from the banks. This is why 65% of the $2 trillion in personal debt (rising daily) is in residential mortgages and real estate borrowings. Outta control.

As for DIY portfolio-builders, if you need a fresh example of why owning individual stocks is gambling, not investing, here ya go. Home Capital’s share values detached from reality about the same time houses did, and now we know there are enough irregularities within the company to cost Martin Reid his head and have the regulators kicking in the doors. You’re far better off with a broad-based ETF owning an index than trying to score with a handful of companies you really know nothing about.

And what does this say about the Canadian housing market?

Maybe nothing. Perhaps these are just careless, greedy dudes. Or maybe they’re harbingers.

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March 28th, 2017

Posted In: The Greater Fool

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