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May 31, 2017 | Acceptable Risk

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.


“But I get 8%,” Jill said, her voice starting to rise on the phone. “And it’s secured. What could possibly be wrong with that?”

Poor woman. The typical mortgage investment corporation investor – older, unsophisticated, afraid of stocks and bonds but who understands interest and has owned real estate. So when she sold her home and needed retirement income she plowed a few hundred thousand into a MIC offering a return six times higher than a GIC and based on an asset she knew all about. Houses.

Of course, being a prick when it comes to bubbles and inflated expectations, I gave Jill the facts.  She’d just locked her precious, never-to-be-duplicated savings into second and third mortgages made to deplorables who didn’t qualify for bank loans to buy property at the most bloated levels in history, with no guarantee.

“B..buu…but,” she stammered, “They’re mortgages. Mortgages are backed by stuff – houses, properties.”

Yeah, first mortgages are, I countered. If the borrower walks the lender gets money back eventually. But not title. The trouble with MICs is they usually lend seconds at crazy rates and aren’t federally insured. Risk drips out of every orifice. Did you not wonder, Jill, why they pay 8% when the bank’s offering 2%?

She hung up.

These days MICs are big business, especially since Home Capital started croaking. Business has been booming for these subprime lenders whose mortgages can easily cost 10% to 12% or more for desperate borrowers the banks have shunned. Immigrants, commissioned salespeople with variable incomes, the self-employed, folks with a blemished credit record or anyone who admits to following this blog are among the walking dead who require such lenders. As Home cuts back on its lending to conserve cash and cling to life, little mortgage brokers (who may sell jewelry or falafels on the side) have been busy arranging loans which are then funded by pools of money from private investors. Like Jill.

Rates are stiff because they reflect true risk. The lousier the credit rating of the borrower the higher the chances of default and unrecoverable loss (especially in a declining market) and therefore the more interest the lender demands (passing it on to the investor). It makes you wonder: in a country where households owe more money than the entire stock market’s worth, with stagnant incomes and diminished savings, why can you still borrow from the bank at 2.5%?  The answer is simple: CMHC.

But there’s no taxpayer-funded monolith standing behind the MICs. If a borrower blows up – typically because a real estate correction puts them underwater and it’s easier to go bankrupt than make payments – the first mortgage-holder will sell the property to recover what it can. The second lender gets the scraps. Or nothing.

As Home Capital reduces its lending and the housing market lurches into a high-listings, low-sales, weakening-prices mode, rates are jumping. And this market is huge – with about $400 billion in mortgages made through subprime lenders now out there in the big cities, mostly in the GTA (Toronto, Brampton, Mississauga). The more borrowers who end up getting their money here, and the more Jills who foolishly fund them, the more risk the entire market is at. We don’t need to have the Bank of Canada spike rates. They’re already ballooning for an army of people.

And speaking of CMHC, word has surfaced this week that mortgage loan volumes have collapsed – at least those insured by the feds. There’s been a fat 41% drop, the agency says, the result of the moister stress test Ottawa brought in late last year, plus higher premiums – and declining real estate activity. You may remember that first-time buyers now have to qualify for loans not at the cheapo bank rate, but the central bank’s five-year standard rate of 4.64%. To get around that there’ve been more withdrawals from the Bank of Mom as parents borrow against their own houses to give down payment cash to their spawn. Yes, debt gifted to the kids so they can qualify for more debt.

All this is worrying people who don’t live here, look at us and shake their heads. Like the dudes at the International Monetary Fund.  Once again they’ve warned our housing market is unsustainable, point to the recent downgrades of Canadian banks as evidence, and say governments (like those in BC and Ontario) who blame foreign buyers are probably misguided. Far better to replace such discriminatory, xenophobic taxes with measures to curtail speculation, they say.

So, it’s all about risk. Borrowers buying into a declining housing market are embracing it. People like Jill who fund subprimes are swimming in it. Systemic risk bubbles higher as the mortgage pie gets less insured, less regulated. And now governments are certain to make the outcome worse.

As yesterday’s comments showed, that’s on you.

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May 31st, 2017

Posted In: The Greater Fool

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