Who's getting rich off rich dad?

Marketplace has a special on Rich Dad Poor Dad seminars going on in Canada. It shows for a $500 fee the course just exploits people's insecurities about not being wealthy to sign up for more expensive courses of up to $45,000. The instructor pushed his class to raise their credit card limits immediately because they are going to need the "cash" for real estate "investing". Conveniently, as one student points out, they will also be able to charge these courses with the high limits as well. Rich Dad author Robert Kiyosaki was confronted about this and admits he is not happy with Whitney Information Network, the company which licenses his brand. Of course his disgust doesn't change the fact he is still getting rich off them.

Marketplace also followed up with one of the example the instructors used, a trailer court in Saskatchewan that ended up being bogus and also with some unhappy customers.

Watch the video here

I agree with Garth Turner

From Garth Turner's recent post (emphasis mine)

The main point is that real estate here is grossly overvalued and, as I’ve tried to underscore in the last two posts, the folks who don’t understand that are destined to relive the experiences of others. Yes, the market will be lower in a year or two than it is now, but I’m not expecting a 40% decline with foreclosures and abandoned blocks of McMansions. What happened in Vegas will stay in Vegas.

Nonetheless, Canadians will taste the bitter remedy of negative equity which has been forced down the throat of 23 million Americans. Those who bought most recently, at the highest levels, and with extreme leverage, are at greatest risk. The dangers we face have been well articulated here and will logically result in a 15% decline in the national average house price. In Toronto, maybe less. In Calgary and Kelowna, more. In Vancouver, may God be with us.

I think a 15% national decline is likely, especially with the price gains of 2009 considered.

Anyway, I was surprised to see such a mild nationwide correction prediction from Garth. I wonder how some of the blog dogs will react?

CAAMP assumptions

CAAMP put out a report dismissing the risk of low interest borrowers defaulting when rates increase. The goal was to downplay the talk which has modeled recent borrowers as 35-year variable rate risk takers speculating on increasing prices. While this model is inaccurate, there are some fairly extreme assumptions in this report to look at.

First things first - it is way too soon after Bernanke said subprime is contained to title the report `Revisiting the Canadian Mortgage market - Risk is small and contained`. The title is a bearish signal by itself.

After running numbers for current buyers with higher interest rates they conclude:

No harm can be done by reminding Canadians to be prudent in borrowing money. But…

Virtually every Canadian who is in a position to buy a home and qualify for a mortgage is well-educated and capable of assessing what is in their best interests, of looking forward, and of anticipating threats to their financial well-being. The Canadian mortgage lending industry is amply incentivized to avoid making bad loans and to optimize risk exposures. This research on the characteristics of recent mortgage transactions suggests very strongly that current rules and practices are resulting in an acceptable level of mortgage related risks in Canada.

However some of their assumptions to lead to this conclusion are questionable.

Mortgage interest rates are assumed to increase to 5.25% for both fixed rate and adjustable/variable rate mortgages. For mortgages with current rates above 5.25%, the rates are assumed to be unchanged in future.

Fixed rates at 5.25% is a low number to run a stress test against when current rates are around 4%. Of course if interest rates only rise 1.25% the impact on payments in 5 years will be limited. This is not the type of rates commentators are warning about so its not exactly fair to use them to dismiss these risks. From the bank of Canada statistics fixed rate mortgages were 2.05% higher as recently as December 2007 than they were in 2009. These historically low rates are higher than their future rate scenario not to mention 8, 9 or 10% interest rates which also have somewhat recent historical precedent.

Incomes rise by 2.5% per year. This is a conservative assumption, as most of these recent borrowers are early in their careers and can expect raises due to promotions, in addition to cost of living adjustments. Other costs for housing and debt service that are included in the calculation of GDS and TDS increase by 2.5% per year.

Historically incomes have been rising, but I question extrapolating that gain going forward given the current unemployment rate. Even if incomes do rise by that amount it will not happen uniformly across all highly leveraged buyers.

A further factor mitigating risk for these households is that they have varying degrees of equity in their properties. Among the households with adjustable/variable rate mortgages, who may face TDS ratios of 40% or more, about 40% have 10% or more equity in their homes. In the event of future financial difficulty the home equity gives them options to solve their problem, as a last resort by selling their home. That leaves about 6,000 Canadian households with adjustable/variable rate mortgages who have less than 10% equity. Some of these households may face very difficult challenges in the event of significant rises in mortgages rates, but relative to 13.25 million Canadian households, the overall risk is very small.

There are a couple of problems in taking comfort in those with 10% equity. One is the equity is assuming current market prices which have had a significant run up. Even the most mild national "correction" would erase 10% which seems quite optimistic given the situation south of the border has been severe enough to wipe out much more. While I don't think the Canadian situation will be as bad in terms of peak to trough national decline I believe 10% is probable if not optimistic given the gains made in 2009. Next the transaction costs take up a fairly significant portion of those with 10% equity - commission alone could easily take half.

Now I do appreciate them stating the assumption in this report, and there were a couple of points that I believe are important. It re-iterated the fact that most new purchases are taking fixed rate mortgages with less than 35 year amortization. It also accounts for some of the recent increase in disposable income to debt ratio to an increase in home ownership. I think that is an important point, but I believe they are too dismissive of the amounts people are able to borrow from low interest rates and lax CMHC lending.

Home inspection remains a buyer-beware environment

Good article from Vancouver Sun

However, despite a property inspector's report that indicated some minor problems and noted a roof needed to be replaced within five years, Zallen faces spending up to an estimated $40,000 to make major repairs before she can move in.

She purchased the home for $405,000.

...

He added that while the provincial licensing requirement did succeed in pushing inspectors without credentials out of the industry, it did not adequately address a problem he sees with realtors referring clients to certain inspectors.

Hunter said inspectors wind up in a potential conflict of interest if they depend on referrals from realtors for work, or let realtors pay the fees for inspections.

Also see this marketplace video where 5 home inspectors miss the signs of a contaminated former grow op.

Links taken from Vancouver Real Estate Anecdote Archive

Sales to Listing Ratios

The last charts of the series show the seasonally adjusted sales/listing ratio for Edmonton and Calgary. The sales to new listing ratio is a good gauge on how strong the market is and is closely correlated with price changes. A sale/list ratio close to 50% indicates a balanced market with stable prices. A ratio above 50% leads to a stronger market with increasing prices and below 50% will result in price decreases. Radley showed this correlation in Calgary in this post.

The reason for the seasonal adjustment is theratio has yearly patterns which makes it more difficult to interpret on a month to month basis. For example the historical non-adjusted chart for Edmonton is shown below. I marked points to show each December has a spike followed by a decline in January.

This drop is more due to seasonal patterns as opposed to the market deteriorating at the beginning of each year which is why the adjusted chart is more representitive of market trends. See the market downturn with the ratio dropping below 50% in June 2007 and then started recovery in 2009. The time periods below 50% are fairly closely correlated with when we experienced a declining market.

Calgary's charts is similar to Edmonton's except the decline after 2007 was more gradual.

It appears the ratio has recently peaked in both cities. It is important to note that the sale/list ratio is an indicator of where the market is at right now and potentially which way prices could go in the very near future. They are not intended to predict long term trends.

Edmonton: Seasonally adjusted sales/listings and 2010 benchmarks

Official numbers of Edmonton were released today by the REALTORS Association of Edmonton. I made up some historical charts, seasonally adjusted charts and benchmarks similar to what was done for Calgary in this post.

The first chart is non adjusted historical data. These charts are similar to Calgary except it looks like listings in Edmonton have been even more volatile. See the listings in red went ballistic half way through 2007 and have come back close to normal since.


The yearly pattern is fairly clear in the above chart and using the same method as the previous post I created charts that have been seasonally adjusted. See how new listings peaked in the second half of 2007 and have come down ever since. This may have recently bottomed similar to the trend in Calgary where the six month average has formed a bottom. The 2010 benchmarks I use are marked points on the six month average.

Seasonally adjusted sales charts are shown below. The bottom on the 6 month average represents sales during the financial crisis between October 2008 and March 2009 or "scorched earth". The most recent 6 months is called "it's all good" and the time period between October 2006 and March 2007 is the peak of the boom.


These benchmarks are shown as dashed lines in the charts below. We will see how 2010 progress by updating the actual values in these charts. The adjusted sales/list ratio over the last 6 months in Edmonton has been 70% and 69.5% in Calgary. So for a balanced or declining market sales will need to drop below and listings above the green benchmarks.


Next I will post seasonally adjusted sales/listing ratio but that is enough charts for today.

Calgary: seasonally adjusted sales and 2010 benchmarks

So it is a new year and we should expect sales to ramp up in spring. Over the past few years it has been difficult to differentiate between an actual change in market activity and what is due to seasonal factors. In this post we will find what the seasonal component in monthly sales is and from that determine some benchmarks to compare 2010 sales against.

Below is a chart of Calgary home sales over the past 5 years from Bob Truman's site and a centered 12 month moving average.


Next is a table of seasonal adjustments for each month. This is done by determining the ratio of actual sales and the centered moving average and taking an average for each month. For example the December ratios are marked below and taking the average we can expect December sales to be 62% of "normal" based on seasonal factors. The method is described in detail here.


January 0.79
February 1.01
March 1.19
April 1.2
May 1.25
June 1.26
July 1.03
August 0.99
September 0.91
October 0.84
November 0.81
December 0.62


This factor is "normalized" and applied to the original sales numbers to get seasonally adjusted sales. Also plotted is a six month moving average.

Finally some benchmarks taken from the marked points on the six month seasonally adjusted sales trend. The first benchmark is the monthly sales at a constant seasonally adjusted rate equivalent to the last six months of 2009. This is described as "It's all good". The second is a sales rate equivalent to the six months of the financial crisis between October 2008 to March 2009. This is described in the following chart as "Scorched earth". The last benchmark is at a seasonally adjusted rate equivalent to that from Nov 2006 to April 2007 called "Back to boom".

I will post the same charts for Edmonton when the official sales numbers are available.

*Update*

Radley commented on new listings so I included similar charts to cover that angle. New listings was at least as important to the 2009 recovery as the increase in sales. One of the benchmarks for new listings in 2010 is a seasonally adjusted rate equivalent to the last half of 2009. This represents a relatively low level of new listings and for a market downturn to occur this will need to increase. The other benchmark is the first half of 2008 where sellers were stampeding to the exits.