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September 23, 2018 | May Not End Well

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.

As debt-pickled, financially illiterate Canadians get set to spend an estimated $1 billion on weed in the first few months it’s legal, the odds rise that things will not end well. First, this is money that should be chucked away for future needs or retire fat loans, not inhaled. Second, given what’s coming, it’s no time to further addle your brain.

But, wait. This post is not about cannabis, since the last time the subject was (b)roached we were overrun by potheads. It felt like one of those creepy scenes from The Walking Dead. They just kept coming. Who knew a blog about economics, finances and canines would attract so many tokers? Scarier still, is a pro-ganja attitude now so pervasive in society (thanks to T2) that casual and recreational drug use is mainstream – and so reflected in the audience of a pathetic, boring blog penned by a spent paleo? Yikes.

Anyway, here’s why this is happening at a bad time.

It appears NAFTA is dead since Ottawa can’t agree to a deal in which the dairy trade is gutted just before the election in Quebec. That’s where the cows live. If Trudeau throws the farmers under the tractor, he has a big electoral problem. Of course if we don’t sign on with Trump, then he’s made it clear auto tariffs are coming. Good bye to jobs in Oshawa, Windsor, Woodstock, Barrie and Bramalea. (Did you notice Ontario preem Doug Ford spend a day last week at the plowing match? Yes, he’s already running for PM.)

However you cut it, no trade deal with the States – even for a year or two – is awful news for the economy. While it would be absurd not to pen one, the gang in Ottawa has been unable to do so after months of negotiations. It sure increases the odds of a recession here, which brings us to the asset class almost everybody owns.

Residential real estate in most markets is under attack by family debt levels, higher taxes (especially in silly BC), tighter lending regs, economic uncertainty and rising interest rates. Given the fact more of our GDP is hooked to housing than ever before, the inexorable plop in sales and prices could have a big impact on confidence, and spending. In turn, two-thirds of our entire economy depends on that consumer spending, so the implications are clear.

Now, Trump. He has spent his entire presidency so far throwing gas on the American economy. The deep corporate tax cut has plumped corporate bottom lines, fueled equity stock prices and triggered waves of buybacks and M&A activity. The unemployment rate is so low economists call it full employment. We haven’t see this kind of number for half a century. Inflation has jumped to the highest level in 22 years. The White House is building protectionist walls around the States designed to create even more jobs and profits, albeit in an environment of rising wages and prices. And the rolling back of regulations, especially costly environmental ones, has richly rewarded corporate America.

Meanwhile the tax cuts have blown a yuge hole in federal finances, so Trump is on track to preside over a $1-trillion annual deficit – never before seen during a period of economic expansion. This has started to drive the bond market nuts. Yields are rising as the world’s biggest economy piles on the debt while the president pours on the fuel.

So what? So interest rates are going to go up. Maybe a lot.

The Fed’s benchmark rate will increase on Wednesday for the eighth time in a year and a half. The current odds of another increase on December 19th are more than 70%. There are two more anticipated in the first six months of next year, bring the number of hikes to 11. If Trumpenomics is still in evidence then, and Republicans do well in the November mid-term elections, the US central bank will continue to tighten.

Our guys have a 92% track record of following the Fed. Rates have increased here steadily, and three more jumps are expected by next summer. But that could be a best-case scenario. As mortgage expert, Ratespy owner and financial columnist Rob McLister puts it: “If these things did come to pass, inflation and deficit-averse investors would conceivably dump U.S. Treasuries en masse, particularly foreign investors. With that intensity of selling pressure, North American interest rates (which move inversely to bond prices) could blast off like a SpaceX rocket.”

In fact, look at what’s already happening in the bond market. Here’s the yield on five-year Government of Canada bonds, which closely influence fixed mortgage rates.


This is a big deal. Adds McLister: “Given that, and the fact that there’s a 95% correlation between U.S. and Canadian 5-year bond yields, there is at least a chance that Canada’s 5-year yield could exceed 4% for the first time in over a decade. That could result in:

* discounted 5-year fixed rates near 5.50%, a whopping two points higher than today
* the stress-test rate near an unthinkable 7.34%.”

A 2% jump in mortgages is something few people have contemplated or prepared for. Not only would it make renewing a home loan a painful experience and seriously cut into family cash flow, but housing in general could go catatonic. After all, the reason prices soared was cheap money (not Chinese dudes). A whole generation of people is about to learn that real estate is negatively correlated to interest rates.

So, you can prepare, or not. Be the ant or the grasshopper. Fill your TFSA or your lungs.

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September 23rd, 2018

Posted In: The Greater Fool

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