The Elusive Canadian Housing Bubble

Alexandre Pestov
The Elusive Canadian Housing Bubble

Summer 2010 Edition: Canary in a Coal Mine
JULY 2010
Alexandre Pestov July 2010
BRIEFING
In This Edition
―We had an impressive housing recovery in the late spring
and summer of 2009. As expected this rate of recovery will Briefing 1
moderate in the latter half of 2010 in the face of rising 1 The Numbers 4
mortgage rates and slowing demand—keeping Calgary’s 1.1 Prices – Past the Tipping Point? 4
housing market in balance,‖ 1.2 Sales Volumes – A Glimpse of Things to Come 5
Diane Scott, President of CREB® 1.3 Sales Break-Down – Noticed the New Trend? 5
1.4 The Supply Side – Cooling Off, But Still Too High 7
1.5 Inventories and Market Balance – Shifting Away
The ―moderation of the rate of recovery‖ describes a year over from Sellers 8
1.6 Rental Statistics – No Shortage of Living Space 9
year 40 percent plunge in Calgary home sales, culminating in
2 The Rates 11
June 2010. Just like Vanguard TV3’s ascent into space moderated 2.1 Interest and Mortgage Rates – Leaving the
2 seconds after its launch, or S&P 500 growth moderated in Wonderland 11
November of 2007 and then again in January 2008, Calgary 2.3 Yield Curve – Re-Normalizing 12
home sales volumes felt a ―slight sting of moderation‖ in otherwise 2.3 Posted Mortgage Rates – Prudent Bankers 12
absolutely splendid June of 2010. The plunge in sales, which 3 Housing (un)Affordability 15
3.1 The Present – Not So Bright and Shiny 15
resulted in multi-year low in home sales volumes for the month
3.2 The Future – Tighten Your Belts 16
of June, coincided with a much less dramatic decline in mean 3.4 Income – You Wish You Were Paid in Houses 17
home prices, which were below their May 2010 levels. Quite 3.5 Income and Financing Requirements – Refinancing
expectedly, the sales collapse marked a noticeable rise in home Pains Ahead 18
inventories in Calgary. 4 Fundamentals 20
4.1 Price-to-Income – Severely Unaffordable 20
The summer 2010 of Calgary’s real-estate market could be 4.2 Price-to-Rent – Any Investors Left? 21
4.5 US and Canada – Trotting Down the Familiar Path 21
looked at as either a fine statistical oddity, or a fully warranted
effect of some macroeconomic events unrelated to the overall
5 Canadian Debt 23
5.1 Mortgages in Arrears – Recent Hiring Helped 23
Canadian housing market health. After all, oil, which is the back- 5.2 Credit Card Delinquency and Loss – A Short Break 23
bone of Alberta’s economic miracle story, is no longer testing 5.3 Debt Levels – An Exponential Rise 24
triple-digit highs. Despite slightly softer prices per barrel, world 5.4 Net Worth – We Own More Because We Owe
demand for Alberta’s oil has increased and shows no sign of More 26
5.5 CMHC – Closing the Barn Door After … 26
cessation. There has been no significant reduction in net
5.6 National Debt 27
economic activity or general employment in the Alberta
6 Musings 28
economy within the past year. In this context, Calgary’s real- 6.1 Macroeconomic Risks – Where Is the Bright Spot? 28
estate sales slump is so severe in comparison to the overall 6.2 Amusing Findings – It’s All Good 30
economy that it should be likened to a sudden canary death in a 6.3 Chart of the Day – Remember NASDAQ in 2000? 30
coal mine. For those with work to do and tools in hand, it is 7 Scorecard 32
business as usual. But a few dim metres away—it has become Data Sources 33
critically dangerous. Acknowledgements 35
Before continuing with the report, some housekeeping work:

This report is an update of the original ―The Elusive Canadian This second edition of the report is the first of the semi-annual
Housing Bubble‖, which described the current housing bubble in sequels for the original paper to provide timely updates on the
Canada. The first instalment of this series touched on key points state of the housing market in Canada. This document
highlighting the existence of a housing bubble in Canada, while introduces a structure of the semi-annual releases, and your
explaining why it didn’t burst alongside the US’s in 2007-2008. comments and suggestions regarding it are always welcome.
Some references made in this edition of the report assume the
Unlike Toronto and Vancouver, Calgary did not have the short-
prior knowledge of the original report material and it is strongly
term sales-boosting influences of the pending HST introduction.
suggested one reads it thoroughly before undertaking this paper.
Nor were there any macroeconomic disturbances in the form of
The original document can be found under the following URL:
volatile energy prices. Thus, Calgary is indicative of the bumps
http://www.scribd.com/doc/28454918/Canadian-Housing-Bubble.
and potholes awaiting the broader housing market in Canada.
The Elusive Canadian Housing Bubble Summer 2010 Edition Page 1 of 35

While the true state of affairs in Toronto and Vancouver might trapping those inside. However, if there is no spark, the mine’s
be concealed by the HST rollout, Calgary gives us a clear ventilation systems will eventually bring methane levels under
indication of what the future likely holds for the rest of the control. During the clean-up operation, the mine will remain
Canadian real estate market. highly susceptible to accidental combustion and any careless
movement in the mine can trigger an explosion. This is precisely
Between the early 2008 and mid-2010, a potent combination of the situation we see today in the Canadian housing market. This
lax and now-defunct CMHC rules, misunderstanding of the HST is akin to an excessive methane build-up in a mine – at this point,
and positive feeling of the economic recovery (mid-2009 a single spark can set off a major explosion. However, as of mid-
onwards) created an environment in which home sales July 2010, a possible source of this flare is not yet visible. As
flourished, excessive demand pushed the prices higher, and the such, the market can stay stagnant for an extended period of
market shifted in favour of sellers. Conversely, housing time, moving sideways or much likely sluggishly sliding to more
affordability worsened, and the hosing bubble, which existed acceptable valuation levels, unless a trigger for a collapse
before 2007, was inflated further. The temporary nosedive of appears. In the next while, it will be important to closely
home prices in 2008 was quickly reversed by the extraordinary monitor a number of factors, including changes in inventory
measures implemented to combat any deflationary pressure levels, a rush to sell (i.e. rapid price depreciation on rising
within the market. As a result, prices shot up by as much as 17 volumes), ability to service personal debt, unemployment and
percent year-over-year in some markets across Canada. strong macroeconomic shocks. Referring to CIBC World
Markets’ economist Benjamin Tal (May 2010):
Is the bubble ready to burst?
It is always difficult to call the top or breaking point in any … prices could decline by as much as 10 per cent in the
market. That’s been said, the bubble is ready to stop inflating next two years, but that a ―violent‖ correction similar to the
further. Sticking with the coal-mine analogy, it seems all songbirds one seen in the United States remains unlikely because
have suddenly and silently fallen from their perches and lie Canadians will keep paying their mortgages by cutting back
motionless on the bottoms of their cages. For some reason, the on other discretionary expenses.
initial warning signs are being ignored or downplayed by a
I concur with this view. With no trigger in sight, the violent
number of pundits. A broad group of analysts and
burst of the bubble is unlikely at this point in time. Presently,
commentators, ranging from industry participants to academics,
Canadians appear to have some buffer capacity for coping with
have been willing to publicly entertain a number of explanations
impending interest rates increases. The unemployment rate has
ranging from the somewhat plausible to the laughably arcane.
levelled, which is helpful for keeping up with mortgage payments.
However, the more pragmatic lot is rushing for the exit, trying
This, however, does not mean that all is safe and sound.
not to send accidental sparks flying.
According to Benjamin’s analysis, the recovery has overshot
The combination of factors that led to a violent housing bubble
what is justified by the economy. His analysis suggests that nearly
burst in the US is partially present in Canada now. However, it
17 percent of Canadian homes trade above their fair value.
lacks a certain key ingredient to undergo an immediate and
Calgary, Montreal, Toronto, and Vancouver comprise nearly 2/3
catastrophic explosion. On the flipside, this is not the reason to
of the active housing market and seriously or severely
be complacent. Several material developments, including a
overvalued. With few exceptions, Toronto is overpriced across
looming double-dip recession in the US, the recent events in
the board. Home prices in Vancouver are uniformly exorbitant
China (as covered later in this edition of the report) and the
in all districts. Calgary and Montreal, while moderate in
propensity of Canadians of all ages to have an ―investment
comparison to Toronto and Vancouver, has large pockets of
property‖ (which may lead to a sudden rush to sell by financially
properties trading above their fair value, as defined by the
strained investors), introduce a great risk that may tip the scale
commonly used evaluation metrics such as price-to-income and
and lead to an outright price collapse.
price-to-rent ratios (covered later in this document). These cells
of economic distortion are not limited to Canada’s most
Will it burst? prominent urban areas. During my recent trip to Muskoka, I was
stranded near the Deerhurst resort due to the roadblocks
The answer is disappointingly inconclusive: It may or it may not.
related to the G8 (turning later into G20) meetings. While
To qualify this response, let’s refer to the ―coal mine‖ theme of
waiting for the seemingly endless convoys of officials to pass, I
today’s report. Methane accumulated in high concentrations in
wandered into a development-specific real estate sales office on
coal mines possesses grave danger to miners. A single spark can
the outskirts of beautiful Huntsville. Tacked in the middle of a
send a powerful explosion through the mine shaft, killing or

freshly deforested land away from the town center, the my sentiment. Fundamental valuations suggest that properties in
subdivision for sale was far from any scenic lakes or rivers. In Vancouver are 35-50 percent above their fair value. Many
fact, the only scenic place was a cemetery on the opposite side districts of Toronto are 25-30 percent overvalued. Calgary and
of a busy country road. Small, no-frills two-bedroom bungalows Montreal, while not as overpriced as Toronto and Vancouver,
were slotted for building on lots barely larger than the dwellings decoupled by as much as 20 to 25 percent from their
themselves. I recall looking outside the window, staring into the fundamentals. There is evidently a lot of downslide risk. TD Bank
wall of trees 5 feet away from the back wall and two anticipates 2.7 percent decline at the national level in 2011, while
neighbouring homes that resided within the arm reach on both Benjamin Tal of CIBC sees a 10 percent fall. To my estimation,
sides and thinking ―the price of raw materials to build this place these numbers are conservative, and real decline in real-estate
is probably higher than the price I am willing to pay for it.‖ Then prices should exceed the bank analysts’ expectations. In any
came the real shocker: It was $420,000. For a two-bedroom case, the current market offers a unique opportunity to buy a
bungalow located in the middle of nowhere away from any home at the peak of what will be likely known as ―The Fist
scenery on a lot smaller than home backyards in North York. Canada’s 21st Century Housing Bubble‖.
Severe overvaluation is not limited to the four largest cities.
Together, Toronto, Vancouver, areas in Montreal and Calgary, The current housing market has the potential to explode, with a
and other places across the country suggest that estimates of single spark causing a violent collapse in prices. While there is no
Benjamin Tal remain in a very conservative range. Using such trigger present at the moment, the economic realities
common valuation techniques that are covered later in this suggest that home prices will slide 5-15 percent from their
document the percentage of homes in Canada trading much present levels in 2010-2011. All in all, rising interest rates, high
above their fair value can be safely put above 30 percent mark. levels of debt, negative macroeconomic developments in the US,
Europe and China, and oversupply of homes in Canada suggest
I maintain my view that the housing market in Canada is risky, that turbulent times are ahead and outlook remains negative.
overvalued, and has been artificially propped up by an injection
of Canadian-style subprime borrowers between 2008 and 2009,
which should amplify an impeding price correction. The
overheating of the late 2009 and early 2010 has only reinforced Thank you for reading.
Market Risk Rank Outlook
7.2 (High) Negative
Please direct all inquiries regarding this report to alec.pestov@yahoo.com

1 THE NUMBERS
1.1 Prices – Past the Tipping Point?

Exhibit 1.1: Teranet Housing Price Index
180
160
140
Index
120
100
80
60
Composite Calgary Montreal Toronto Vancouver
Source: Teranet – National Bank House Price Index;
Canadian home prices in May 2010 (Exhibit 1.1) were up 13.6 percent from a year earlier, according to the Teranet - National Bank
National Composite House Price Index™. The 12-month gain was strongly influenced by Vancouver, up 17.1 percent, and Toronto,
up 16.0 percent. In the other four markets surveyed, the 12-month rise ranged from 5.6 percent in Halifax to 11.4 percent in
Ottawa. In Calgary it was 7.8 percent and in Montreal 8.5 percent1.
During the 10-year span between May 2000 and May 2010, housing prices increased 96 percent nationwide, 118 percent in Calgary,
116 percent in Montreal, 69 percent in Toronto and 126 percent in Vancouver. Doubling of housing prices over the 10-year period
coincided with the all-time highs in nominal terms in the three major cities except Calgary where prices remain 8.6 percent below
their stratospheric highs set in August 2007. Year-over-year and from May to June 2010, nominal home prices edged higher in all key
markets without any surprises (Exhibit 1.2).
Exhibit 1.2: Nominal Prices
Canada Calgary Montreal Toronto Vancouver

June 2009 326,689 392,601 276,291 403,918 575,949
June 2010 342,662 415,431 307,403 435,064 657,934
% Change 4.89% 5.82% 11.26% 7.71% 14.23%
Source: CREA;
1
http://www.housepriceindex.ca

Despite the ongoing economic uncertainty, housing prices in Canada surged to surpass their pre-recession peak by as much as 9
percent. This trend does not appear to continue in the future, and May 2010 is likely to mark their local price peak. The preliminary
readings of the average and mean prices for June and July suggest an impending decline in price indexes due to a widespread decline
in sales and signs of weakening home prices.
The new housing price index (Exhibit 1.2) rose uniformly nationwide and in all four largest cities, both year-over-year and from the
previous month.
Exhibit 1.3: New Housing Price Index
May 09 Apr 10 May 10 April to May 2009 to

May 2010 May 2010
Canada 153.5 157.5 158 0.3% 2.9%
House only 160.8 167.5 168.2 0.4% 4.6%
Land only 138.1 137.4 137.7 0.2% -0.3%
Montréal 165.2 169.3 169.8 0.3% 2.8%
Toronto 144.6 148.1 149.2 0.7% 3.2%
Calgary 229.1 235.7 236.3 0.3% 3.1%
Vancouver 114 120.3 120.6 0.2% 5.8%
Source: Statistics Canada;
1.2 Sales Volumes – A Glimpse of Things to Come

The significant decline in sales year-over-year was observed uniformly across Canada (Exhibit 1.4). The new mortgage regulations
and exhaustion of an adrenaline boost from the HST scare in British Columbia and Ontario inflated sales volumes in the months
preceding June 2010, and led to very disappointing, albeit predictable, results in June. According to Diane Scott of CREB:
We are seeing continued moderation in Calgary’s home sales in the face of higher mortgage rates, increased inventory levels and a
decreasing number of first-time homebuyers entering the market. Our sales trends in June reflect much of what we saw in May.
Changes to mortgage rules meant a good portion of homebuyers wanted to get in before the new regulations took effect in April. This,
along with rising interest rates on the horizon, pulled forward sales we might have expected in May and June.
Diane’s statement might suggest that the slowdown is attributable solely to May and June as a result of new regulations, hinting a
one-time event. Undesirably, this weakening in volumes is expected to accelerate in coming months, as market is turning from a
seller’s boon into a seller’s bane.
Exhibit 1.4: Sales Volumes
Calgary Montreal Toronto Vancouver

June 2009 3,170 4,163 10,955 4,259
June 2010 1,902 3,371 8,442 2,972
% Change (YoY) -40% -19% -23% -30%
Source: CREB; GMREB; TREB; REBGV;
1.3 Sales Break-Down – Noticed the New Trend?

Calgary
The distribution of sales (Exhibit 1.5) signals a shift of buying preferences to cheaper dwellings. Surprisingly, sales of million-dollar-
plus properties increased by nearly 42 percent year-to-date, compared with the same period a year ago. The emerging trend of sales

clustering in the lower price categories as compared to the same period last year in combination with the rapidly dwindling sales
volumes suggests that the Calgary market is set for a price correction.
Exhibit 1.5: Calgary Sales Distribution
450
400
350
300
250
Units
200
150
100
50
0
Jun-09 Jun-10
Source: CREB;
Toronto
Exhibit 1.6: Toronto Sales Distribution
3500
3000
2500
2000
Units
1500
1000
500
Jun-2009 Jun-2010
Source: TREB;
While sales volumes dropped in Toronto similarly to those in Calgary, the price distribution of the purchased dwellings June 2010
remained roughly the same as in June of 2009 (Exhibit 1.6). Positive short-term effects of the HST introduction certainly acted as a
key catalyst that helped maintaining the price balance in check. The overvaluation of housing prices uniformly across GTA signals
that the sales distribution curve will shift towards the lower end homes in coming months.

Montreal and Vancouver

Sales distributions are not available for Montreal and Vancouver due to the limited statistical data published by GMREB and REBGV.
1.4 The Supply Side – Cooling Off, But Still Too High
Exhibit 1.7: Dwelling Starts, Dwelling Completion and Dwellings under Construction
300,000
250,000
200,000
Dwellings
150,000
100,000
50,000
Dwelling Starts Dwelling Completion Dwellings Under Construction
Source: CMHC;
Commencing 2007, the new dwelling starts, completions and units under construction experienced a sizable correction. Despite
these changes, the number of units set to be constructed in 2010 now exceeds the long-term average, indicating a continuous
oversupply of homes. The sharp reduction in number of new starts and completions was softened by the 2000-2007 swelling of
dwellings under construction. The number of units remaining in the pipeline will fuel additional supply of homes released into the
market and in spite of the declining dwelling starts the overbuilding is expected to continue for into foreseeable future.
Exhibit 1.8: Residential Dwelling Starts
June 2009 June 2010

Singles Semis Row Apartment Total Singles Semis Row Apartment Total
and Other and Other
Nfld.Lab. 926 24 18 74 1,042 Nfld.Lab. 500 2 14 74 590
P.E.I. 150 18 27 105 300 P.E.I. 77 8 10 56 151
N.S. 803 132 106 171 1,212 N.S. 414 80 71 479 1,044
N.B. 760 185 61 400 1,406 N.B. 348 166 80 194 788
Que. 7,549 1,682 692 8,579 18,502 Que. 4,817 1,658 798 8,105 15,378
Ont. 7,939 1,292 2,874 8,954 21,059 Ont. 9,183 1,050 3,573 6,899 20,705
Man. 1,300 64 91 259 1,714 Man. 705 12 60 265 1,042
Sask. 1,009 67 92 121 1,289 Sask. 914 40 63 150 1,167
Alta. 4,741 730 523 890 6,884 Alta. 6,192 1,142 836 1,281 9,451
B.C. 2,666 468 882 2,146 6,162 B.C. 3,355 463 1,054 3,570 8,442
Canada 27,843 4,662 5,366 21,699 59,570 Canada 26,505 4,621 6,559 21,073 58,758
Source: CMHC;

Exhibit 1.9: Residential Dwelling Completions
June 2009 June 2010

Singles Semis Row Apartment Total Singles Semis Row Apartment Total
and Other and Other
Nfld.Lab. 1,077 80 78 130 1,365 Nfld.Lab. 556 12 15 96 679
P.E.I. 134 6 18 34 192 P.E.I. 100 8 23 52 183
N.S. 1,080 152 84 482 1,798 N.S. 448 68 84 68 668
N.B. 921 248 70 455 1,694 N.B. 446 206 61 98 811
Que. 6,994 1,450 657 8,559 17,660 Que. 3,652 1,018 642 5,221 10,533
Ont. 12,288 1,546 4,607 10,869 29,310 Ont. 8,415 1,088 2,418 6,250 18,171
Man. 1,383 74 212 380 2,049 Man. 473 12 20 254 759
Sask. 1,428 81 281 538 2,328 Sask. 817 26 27 160 1,030
Alta. 6,853 1,056 1,316 4,701 13,926 Alta. 4,833 876 666 1,712 8,087
B.C. 4,401 796 1,619 8,876 15,692 B.C. 2,435 451 1,040 6,777 10,703
Canada 36,559 5,489 8,942 35,024 86,014 Canada 22,175 3,765 4,996 20,688 51,624
Source: CMHC;
1.5 Inventories and Market Balance – Shifting Away from Sellers

Exhibit 1.10: Inventories
Calgary Montreal
16,000 22,500
14,000 22,000
12,000 21,500
10,000 21,000
8,000 20,500
6,000 20,000
4,000 19,500
19,000
2,000
18,500
0
Jun-2009 Sep-2009 Dec-2009 Mar-2010 Jun-2010 Jun-2009 Jun-2010
Toronto Vancouver
30,000 20,000
25,000
15,000
20,000
15,000 10,000
10,000
5,000 5,000
0
0
Jun-2009 Jun-2010
Jun-2009 Jun-2010
Source: CREB; GMREB; TREB; REBGV;

Sliding sales volumes were predictably accompanied by a rise in inventories. Buying stagnation in Calgary and Vancouver in the
environment of active selling pushed inventories higher year-over-year. The buying frenzy was instrumental to depleting inventories
in Montreal and Toronto, which witnessed year-over-year decline. However, June 2010 is expected to be a turning point after which
both cities will join their Western peers with inventories inching upwards.
Exhibit 1.11: Market Balance in Key Metro Markets (May 2010)
Calgary Montreal
Toronto Vancouver
Source: Royal Bank of Canada, May 2010;
Rising inventories and plunging sales helped to bring the housing market in all four cities to or near the ―balanced market‖ range.
The continuation of the market weakening is expected to shift the balance further in favour of buyers in coming months.
1.6 Rental Statistics – No Shortage of Living Space

Exhibit 1.12: Vacancy Rates in Privately Initiated Rental Apartment Structures
National Alberta Quebec Ontario BC

Oct-01 1.6 1 1.3 1.5 2.6
Oct-02 2.1 2.3 1.2 2.5 3.1
Oct-03 2.6 3.7 1.3 3.4 3.1
Oct-04 3 4.5 1.7 4 2.4

Oct-05 2.9 3 2.1 3.7 1.9

Oct-06 2.6 0.9 2.7 3.3 1.1
Apr-07 2.8 0.9 2.6 3.8 1.1
Oct-07 2.7 1.6 2.9 3.3 1
Apr-08 2.6 2.9 2.8 3 1.1
Oct-08 2.3 2.5 2.4 2.5 1
Apr-09 2.8 4.3 2.5 3.1 2.3
Oct-09 3.1 5.6 2.7 3.4 2.8
Apr-10 3.1 6.1 2.5 3.4 3.1
7%
6%
Vacancy Rate (percent)
5%
4%
3%
2%
1%
0%
National Alberta Quebec Ontario British Columbia
Source: CMHC;
Vacancy rates continued to climb in June 2010 across all markets, signalling no shortage of living space and a last-minute rush to buy
by renters. The rise was especially pronounced in Calgary where vacancy rates breached the 6 percent mark.

2 THE RATES
2.1 Interest and Mortgage Rates – Leaving the Wonderland

Exhibit 2.1: Canadian Bank Rate and 5-year Fixed Mortgage Rate (1951 to 2010)
20%
18%
16%
14%
Rate (percent)
12%
10%
8%
6%
4%
2%
0%
Bank Rate 5-year Posted Fixed Rate
Source: Bank of Canada;
Over the last 59 years the 5-year fixed rate mortgage rate averaged at 8.8 percent (Exhibit 2.1). At the time of writing of this paper,
it stood at 5.59 percent. The overnight rate was 0.75 percent. The relative flatness if the 5-year fixed mortgage rate between 2004
and now in face of the sharp drop in bank rate is reflective of the conviction held by the banking community that historically low
rates are not here to stay. Exhibits 2.2 and 2.3 present the forecasted bank rate for 2011. The 5-year fixed mortgage rate is
expected to remain near or slightly below the 6-percent mark.
Exhibit 2.2: Bank of Canada Rate Forecast Exhibit 2.3: Bank of Canada Rate Forecast (for 2011)
BMO CIBC RBC ScotiaBank TD Bank

Rate 2.5% 2.25% 2.75% 2.25% 2.5%
Source: BMO; CIBC; RBC; BNS; TD;
Exhibit 2.4: 5-Year Fixed Mortgage Rate 2011 Forecast
2011
Rate 5.85 - 6.1%
Source: Forecast;
Source: Bank of Canada; RBC Economic Research;

2.3 Yield Curve – Re-Normalizing

Exhibit 2.5: Normal (Averaged Between 1986 and 2010) and Current Yield Curves
8%
7%
6%
Yield (percent)
5%
4%
3%
2%
1%
0%
Maturity (years)
2010-02 2010-04 Typical Yield Curve
Source: Bank of Canada;
Exhibit 2.6: Projected Yield Curve Changes

Jul-2010 Sep-2010 Dec-2010 Mar-2011 Jun-2011 Sep-2011 Dec-2011
Canada Yield Curve
2.16 2.10 2.05 2.00 1.65 1.35 1.25
(30-Year — 2-Year)
Source: CIBC World Markets;
Exhibit 2.5 displays the difference amongst the typical yield curve, a yield curve observed at the time of writing of the original ―The
Elusive Canadian Housing Bubble‖ paper, and the yield curve posted by the Bank of Canada at the time of writing this report (these
data series are updated on or near the first business day of each month, with a three-month lag). The most recent curve shows a
rise in short- and mid-term rates (between 1 and 10 years), highlighting lender’s expectations of an imminent rate increase.
The expected moderate increase in the 5-year fixed mortgage rate implies only marginal changes in mortgage payments for home
owners who borrow under the 5-year fixed mortgage scheme. However, it doesn’t automatically bode happy days for all mortgage
holders. During the recent times, a substantial portion of borrowers accepted short-term loans to benefit from a well pronounced
discrepancy existing between the short and mid-term rates. The anticipated 200 basis points upward shift in bank rate will translate
into an approximately 20 percent rise in mortgage payments these borrowers should anticipate 12-24 months.
2.3 Posted Mortgage Rates – Prudent Bankers
Closed Mortgage
Institution 6 Mth 1 Yr 2 Yr 3 Yr 4 Yr 5 Yr
AGF TRUST n/ 4.25 3.85 4.45 5.44 5.79
ALTERNA SVGS/ALTERNA BK 4.60 3.30 3.50 3.84 4.09 4.34

ATB FINANCIAL 4.75 3.50 3.85 4.40 5.44 4.39

BANK OF MONTREAL 4.75 3.50 3.85 4.40 4.29 3.99
BANK OF NOVA SCOTIA 4.95 4.40 4.25 4.70 5.44 5.79
BANK WEST n/ 5.25 5.50 5.75 6.00 6.50
CAISSES DESJARDINS n/ 3.70 4.20 4.65 5.44 5.79
CANADIAN WESTERN BANK 4.75 3.50 3.85 4.50 5.44 5.79
CANADIAN WESTERN TRUST 4.75 3.50 3.85 4.50 5.44 5.79
CIBC n/ 3.50 3.85 4.50 5.44 5.79
COAST CAPITAL SAVINGS CU 4.75 2.65 3.25 3.75 3.85 3.95
COMMUNITY TRUST 4.95 3.70 4.05 4.70 5.64 5.99
COMTECH CREDIT UNION 6.60 3.09 3.99 3.99 4.09 4.09
CONCENTRA FINANCIAL 4.75 3.50 3.85 4.40 5.44 5.79
DUCA FIN. SERVICE C.U. 4.40 2.99 3.49 3.75 3.99 4.09
EFFORT TRUST 3.60 3.50 3.80 4.50 5.40 5.75
EQUITABLE TRUST n/ 3.50 3.85 4.50 5.44 5.79
FIRST CALGARY SAVINGS 4.75 2.99 3.59 3.79 4.19 4.29
FIRST NATIONAL FIN. LP 4.65 2.70 3.45 3.50 3.89 4.19
HOME TRUST COMPANY n/ 2.85 3.50 3.50 4.25 4.25
HSBC BANK CANADA 4.85 3.60 3.95 4.60 5.54 5.89
ICICI BANK CANADA n/ 3.05 3.55 3.89 4.10 4.39
ING DIRECT n/ 2.80 3.45 3.79 4.29 4.39
INVESTORS GROUP TRUST 4.75 3.50 3.85 4.50 5.44 5.79
ITALIAN CDN. SAVINGS C.U. n/ 3.50 3.85 4.50 5.44 5.79
LAURENTIAN BANK 3.95 2.59 3.95 4.45 5.44 4.39
MACQUARIE FINANCIAL LTD. n/ 3.19 n/ 3.69 n/ 4.29
MANULIFE BANK 4.40 3.00 3.50 3.90 4.10 4.29
MERIDIAN CREDIT UNION 4.65 3.50 3.85 4.40 3.95 3.98
MFL RIGHTMORTGAGE n/ 3.06 n/ 3.52 n/ 4.08
MRS TRUST 2.85 3.10 3.70 4.20 4.60 4.65
NATIONAL BANK 4.50 3.50 3.85 4.40 5.44 5.79
ONTARIO CIVIL SERVICE C.U. 7.00 2.70 3.10 3.79 4.44 4.39
PACE SAVINGS & C.U. 4.75 3.50 3.85 4.40 5.44 5.79
PARAMA CREDIT UNION n/ 3.20 3.60 3.85 4.50 4.90
PRESIDENT'S CHOICE FINAN 6.44 2.90 3.40 3.75 4.24 4.34
RESMOR TRUST COMPANY n/ 3.64 n/ 3.75 n/ 4.24
ROYAL BANK 4.25 3.10 3.85 4.40 4.29 4.39
ROYAL TRUST 4.25 3.10 3.85 4.40 4.29 4.39
SO-USE CREDIT UNION 6.30 2.75 3.85 4.00 4.50 4.60
STEINBACH CREDIT UNION n/ 3.40 3.80 4.00 4.10 4.20
TD CANADA TRUST n/ 2.70 4.20 4.75 4.29 4.39
VIRTUAL ONE C.U. n/ 2.60 3.50 3.75 4.00 4.13
Updated on 10/07/24
Source: Canoe.ca;
Open Mortgage
Institution Variable 6 Mth Op 6 Mth Con 1 Yr Op 1 Yr Con 2 Yr Op

ALTERNA SVGS/ALTERNA BK 3.50 6.45 n/ 6.45 n/ n/
BANK OF MONTREAL 2.60 6.45 4.75 6.45 n/ n/
BANK OF NOVA SCOTIA 2.75 6.65 4.95 6.70 n/ n/
CAISSES DESJARDINS 6.75 n/ 6.70 n/ n/
CANADIAN WESTERN BANK n/ 6.65 4.75 6.45 n/ n/
CANADIAN WESTERN TRUST 6.65 4.75 6.45 n/ n/
CIBC 2.60 6.70 4.75 6.45 n/ n/

COAST CAPITAL SAVINGS CU 3.45 5.75 n/ 4.15 n/ n/

COMTECH CREDIT UNION 4.75 8.40 6.60 9.00 n/ n/
CONCENTRA FINANCIAL 6.60 4.75 6.75 n/ n/
DUCA FIN. SERVICE C.U. 2.25 n/ 4.60 5.75 n/ n/
EFFORT TRUST 6.65 n/ 6.65 n/ n/
EQUITABLE TRUST n/ 6.40 n/ 6.70 n/ n/
FIRST NATIONAL FIN. LP 2.00 n/ n/ n/ n/ n/
HOME TRUST COMPANY 2.25 n/ n/ n/ n/ n/
HSBC BANK CANADA 2.75 7.00 4.85 7.45 n/ n/
ICICI BANK CANADA 2.25 n/ n/ n/ n/ n/
ING DIRECT 2.15 n/ n/ n/ n/ n/
MACQUARIE FINANCIAL LTD. 2.55 n/ n/ n/ n/ n/
MANULIFE BANK 3.25 n/ n/ 4.00 n/ n/
MERIDIAN CREDIT UNION 1.90 6.55 n/ 6.55 n/ n/
MFL RIGHTMORTGAGE 2.25 n/ n/ n/ n/ n/
MRS TRUST n/ 3.40 2.85 n/ 3.15 n/
NATIONAL BANK 7.00 n/ 6.75 n/ n/
ONTARIO CIVIL SERVICE C.U. 3.30 n/ n/ n/ n/ n/
PACE SAVINGS & C.U. 6.60 n/ 6.75 n/ n/
PARAMA CREDIT UNION 2.50 n/ n/ n/ n/ n/
PRESIDENT'S CHOICE FINAN 2.25 n/ 6.44 n/ 2.90 n/
ROYAL BANK 2.60 6.75 4.25 6.75 n/ n/
ROYAL TRUST 2.60 6.75 4.25 6.75 n/ n/
SO-USE CREDIT UNION 5.00 8.20 6.30 8.55 n/ n/
STEINBACH CREDIT UNION 2.75 n/ n/ n/ n/ n/
TD CANADA TRUST 2.35 n/ 4.65 6.70 n/ n/
VIRTUAL ONE C.U. 6.25 n/ n/ n/ n/
Updated on 10/07/24
Source: Canoe.ca;

3 HOUSING (UN)AFFORDABILITY
3.1 The Present – Not So Bright and Shiny

Exhibit 3.1: Housing Affordability in Key Metro Markets (May 2010)
Calgary Montreal
Toronto Vancouver
In its November 2009 edition RBC states:
The string of significant improvements in housing affordability in Canada finally came to an end in the third quarter [of 2009].
Affordability hasn’t improved since November 2009. Rising home prices in all key metro areas (rising up to May-June of 2010)
contributed to the worsening affordability in three major markets with Calgary being the lone exception (Exhibit 3.1). As RBC’s
report describes the current state:
Affordability erodes again in the first quarter of 2010
Canada’s housing markets started 2010 the same way they ended 2009: firing on all cylinders. While a boon to sellers, the resulting
strong home price increases, however, have hurt housing affordability across the country.
Housing affordability in Canada remains above its long-term average, suggesting that home ownership costs in this period of
historically-low interest rates were inflated by high property prices. At this point, this situation is not viewed as dangerous, as
affordability stays below the recent peak reached in 2008, and, in many regions, below the levels seen during the late-80’s housing

bubble. Housing affordability index is expected to rise nationwide in 2010-2011 to approach the levels set in 2008, which will be
above the average seen during the emergence and subsequent bust of the 80’s housing bubble.
In the major real-estate markets, Calgary was the only city to beat the general upward un-affordability trend, hovering around the
long-term average. Montreal appears determined to challenge the worst-ever affordability recorded in the late 80’s, while Vancouver
residents aim to finally start using 100 percent of their pre-tax household income towards home ownership costs. Toronto exhibits
only moderate rise in un-affordability relative to its long-term average. However, wearing the crown of the second most expensive
major city in Canada in terms of home prices, and ownership costs are clawing their ways towards consuming 100 percent of after-
tax household income.
Exhibit 3.2 shows the mortgage carrying costs for the key real-estate markets. Predictably, rising interest rates pushed mortgage
carrying costs higher all across the board.
Exhibit 3.2: Mortgage Carrying Costs in Key Metro Markets (May 2010)
Calgary Montreal
Toronto Vancouver
3.2 The Future – Tighten Your Belts

Exhibit 3.3 visualizes the forecast of housing affordability for the last quarter of 2011. The estimates are based on a 200 basis points
interest rates rise and home prices remaining unchanged from today’s levels. RBC Economics Research’s housing affordability
measures show the proportion of median pre-tax household income required to service the cost of mortgage payments, property
taxes and utilities. According to the forecast, should the housing prices remain at the current levels, residents of Calgary and
Montreal will have to spend nearly 2/3rds of their after-tax income towards their home ownership costs. In Toronto, this number

will approach 90 percent, while in Vancouver an average household will have to spend in excess of 90 percent of their pre-tax
income to service the ownership costs.
Exhibit 3.3: Adjusted Affordability in Key Metro Markets
Affordability Measure
Detached bungalow Standard two-storey Standard townhouse Standard condominium
Current Forecast Current Forecast Current Forecast Current Forecast
Calgary 36.5 42.4 38.3 44.5 29.8 34.6 23.2 27.0
Montreal 39.7 46.2 49.4 57.4 35.2 40.9 32.4 37.7
Toronto 49.1 57.1 58.5 68.0 41.4 48.1 32.7 38.0

Vancouver 73.4 85.3 80.9 94.1 52 60.5 40.5 47.1
Source: Royal Bank of Canada, May 2010; Forecast;
3.4 Income – You Wish You Were Paid in Houses

Exhibit 3.4: Comparison of Income to House Price Changes (1996 to 2009)
200%
180%
160%
140%
Change (percent)
120%
100%
80%
60%
40%
20%
0%
Salary - Toronto Salary - Montreal Salary - Vancouver Salary - Calgary

Home Prices - Toronto Home Prices - Montreal Home Prices - Vancouver Home Prices - Calgary
Exhibit 3.4 serves as a reminder of a wide gap that emerged between the growth of income and housing prices appreciation over the
last 14 years. Exhibit 3.5 visualizes income and hose price changes over the period of 16 months, as estimated using the hourly
wages and housing price index changes. With the exception of Calgary where wage recovery has outpaced the home price inflation
since January 2009, all major markets have experienced the continuation of the trend whereby home prices grew at a more rapid
pace than personal income.

Exhibit 3.5: Comparison of Income to Home Price Changes (January 2009 to April 2010)
12%
10%
8%
6%
Change (percent)
4%
2%
0%
-2%
-4%
-6%
-8%
Salary - CAL Salary - MON Salary - TOR Salary - VAN

Home Prices - CAL Home Prices - MON Home Prices - TOR Home Prices - VAN
Source: Statistics Canada; Royal Bank of Canada, May 2010;
3.5 Income and Financing Requirements – Refinancing Pains Ahead

Exhibit 3.6: Median Income vs. Qualifying Income for Standard Dwelling Types
$160,000
$140,000
$120,000
Income (dollars)
$100,000
$80,000
$60,000
$40,000
$20,000
$0
Bungalow Two-Storey Townhouse Condominium Extimated Median Income
Source: Statistics Canada; Royal Bank of Canada, May 2010;
Qualifying income is the minimum annual income used by lenders to measure the ability of a borrower to make mortgage payments.
Exhibit 3.6 displays the comparison of the median income nationwide and in key markets to the qualifying income requirements for
standard dwelling types. At present, the median income in Canada allows to qualify for all but average standard two-storey house.

Similar scenario can be observed in Calgary and Montreal where residence with median income will meet mortgage requirements to
afford average-priced bungalows, townhouses and condos in these cities. In Toronto, the median income of an economic family will
allow to quality only for an average condominium mortgage, with averagely priced bungalows, two-storey houses and townhouses
being out of reach for an average family. In Vancouver resident families’ median income will not be sufficient to qualify for any
commonly priced dwelling type. This numbers must be viewed in conjunction with the historically low interest rates. 2011 can prove
to be a challenging year for refinancing for many present borrowers.

4 FUNDAMENTALS
4.1 Price-to-Income – Severely Unaffordable

Exhibit 4.1: Demographia’s International Housing Affordability (2005 to 2009)
12
10
Price-to-Income (ratio)
Canada Vancouver (BC) Calgary (AB) Toronto (ON) Mortreal (QB)
Source: Demographia 2010;
On annual basis, Demographia compiles a report to cover price-to-income ratios in 270-plus markets in Australia, Canada, Ireland, New Zealand,
the United Kingdom and the United States. The Demographia International Housing Affordability Survey employs median house price divided by
gross annual median household income in each market to rate housing affordability values. Demographia uses the following scale to rate housing
affordability:
 Severely Unaffordable 5.1 & Over

 Seriously Unaffordable 4.1 to 5.0
 Moderately Unaffordable 3.1 to 4.0
 Affordable 3.0 or Less
The scale calibration is derived from historical values observed over a period of time. According to Demographia, the Median Multiple has been
remarkably similar among the nations surveyed, with median house prices being generally 3.0 or less times median household incomes. In late 2009,
Calgary and Montreal were rated ―seriously unaffordable‖, scoring 4.6 and 4.9 respectively. Toronto made it to the ―severely
unaffordable‖ hall of fame with a score of 5.2. Vancouver ranked the most unaffordable city amongst the 272 markets surveyed with
a price-to-income ratio of 9.3 (Exhibit 4.1).
Exhibit 4.2 presents the price-to-income ratios calculated using the latest census values, hourly wages and average home prices
reported by CREA. Using Demographia’s scale, in June 2010 Canada (nationwide), Calgary and Montreal firmly reside within the
―seriously unaffordable‖ category. Toronto and Vancouver remain ―severely unaffordable‖ with Vancouver’s price-to-income ratio
reaching the same dangerous levels witnessed at the peak of the housing bubble in the US.
Exhibit 4.2: Major Markets – Price-to-Income (June 2010)
Canada Calgary Montreal Toronto Vancouver

Price-to-Income 4.46 4.75 4.30 5.33 8.93
Source: Statistics Canada; CREA; Estimates;

Exhibit 4.3 shows the price-to-income ratios for different income earning groups. The ratio was calculated based on average income reported by
Statistics Canada adjusted for changes from the last census and median dwelling prices reported by RBC, The ratio north of 6 for an average
working single individual suggests that an average single income-earner in Canada is financially incapable of buying a real-estate property. The
severity of this situation is magnified in severely unaffordable markets, such as Toronto and Vancouver.
Exhibit 4.3: Price-to-Income Ratio for Four Income Earning Groups
Detached Standard Standard Standard

Bungalow Two-Storey Townhouse Condominium
Economic Families 4.2 4.8 3.4 2.9
Unattached Individuals 10.2 11.5 8.2 6.9
Non-elderly Male 8.2 9.3 6.6 5.6
Non-elderly Female 9.8 11.1 7.8 6.6
Source: Statistics Canada; RBC Economic Research; CREA;
4.2 Price-to-Rent – Any Investors Left?

Exhibit 4.4: Price-to-Rent Ratio in Select OECD Countries
250
200
Price-to-Rent (ratio)
150
100
50
Canada United States United Kingdom Australia

Denmark Spain Ireland Switzerland
Source: OECD 2010;
Price-to-rent ratio remains elevated in Canada, and on comparative basis it is 30 percentage points higher than that of the US.
4.5 US and Canada – Trotting Down the Familiar Path

Exhibit 4.5: Comparison of the US and Canadian Housing Price Indices – Select Cities
300%
280%
260%
Index Change (percent)
240%
220%
200%
180%
160%
140%
120%
100%
Los Angeles San Francisco Miami Tampa Chicago

Boston Las Vegas New York Seattle Composite Canada
Calgary Montreal Toronto Vancouver
Source: Case-Shiller; Teranet – National Bank House Price Index;
Exhibit 4.5 visualizes the direction of the housing prices in the US and Canada between January 2000 and May 2010. The correction experienced in
the US brought the housing prices closer to the long-term norms. At the same time, the home price recovery witnessed in Canada in 2009-2010
moved price indexes further out of sync with fundamentals.

5 CANADIAN DEBT
This section of the report employs the following acronyms:
 CC – Consumer Credit
 GDP – Gross Domestic Product
 ML – Mortgage Liabilities
 NW – Net Wealth
 PDI – Personal Disposable Income
 TA – Total Assets
5.1 Mortgages in Arrears – Recent Hiring Helped

Exhibit 5.1: Mortgages in Arrears
0.70%
0.65%
0.60%
0.55%
0.50%
Percent
0.45%
0.40%
0.35%
0.30%
0.25%
0.20%
% of Arrears to Total Number of Mortgages
Source: Canadian Bankers Association;
Since the beginning of the financial crisis in 2007, mortgages in arrears have jumped above their 20-year average. However, the improvements in
state of the Canadian economy observed over the last six months helped to alleviate the rising problem and bring it down to the long-term
average. On the downside, these economic advances appear to be temporary, as unemployment rate inched higher in July 2010 prompting Bank of
Canada to revise its growth forecast. In the coming months further worsening is expected to be seen in the mortgage in arrears readings, reflecting
the diminishing ability of Canadians to service their mortgage debt.
5.2 Credit Card Delinquency and Loss – A Short Break

Credit card delinquencies rose between mid-2008 and 2010 reflecting the waning ability of the Canadian public to service its debt. A respite in
delinquency rates’ ascent can be seen in early 2010, as the unemployment rate dwindled and consumer confidence rose. This, however, is expected
to be a short break in the delinquency rate climb due to the unexpectedly rising unemployment.

Exhibit 5.2: Credit Card Delinquency and Loss Statistics - VISA and MasterCard
1.40% 6.00%
1.30% 5.50%
1.20%
5.00%
4.50%
Percent
1.10%
4.00%
1.00%
3.50%
0.90%
3.00%
0.80% 2.50%
0.70% 2.00%
Delinquency Rate (90 days & over) Net Loss Rate (annualized)
Source: Canadian Bankers Association;
5.3 Debt Levels – An Exponential Rise

Exhibit 5.3: Debt to GDP, Personal Disposable Income, and Consumer Credit and Mortgage Liabilities
150
140
130
120
110
Ratio
100
90
80
70
60
50
Debt to GDP Debt to PDI CC and ML to PDI
Canadian debt is on the rise all across the board. Personal debt to GDP, personal debt to personal disposable income, and mortgage
liabilities have been steadily ascending since the early 1990’s. The short reversal seen during the last economic slowdown of the
early 2000’s was quickly reversed, and Canadians continued accumulating excessive amounts of debt. This trend is expected to
continue into the foreseeable future. The consumer credit and mortgage liabilities have been rising exponentially since early 2001, as
Canadian consumers discovered new riches in cheaply borrowed money. The unfortunate notion of getting wealthy quick by buying

real-estate at any price is reflected in the unsustainably high debt that Canadians carried in 2010 (Exhibit 5.3). At the same time,
owner’s equity as a percentage of real estate has been on the decline signalling that the ―paper‖ wealth of rising nominal home prices
of many Canadians is disappearing while debt of borrowed funds remains a reality (Exhibits 5.4 and 5.5). In fact, the Canadian
household wealth and net worth as a percentage of debt at the historically low levels sending a strong signal of Canadian ―wealth‖
being merely paper-based gains recorded against real debt that requires servicing and eventual repayments (Exhibit 5.5).
Exhibit 5.4: Owner’s Equity as a Percentage of Real Estate
72
71
70
69
Percent
68
67
66
65
Owner's Equity as a Percentage of Real Estate
Exhibit 5.5: Canadian Household Wealth and Indebtedness
25
24
23
22
21
Ratio
20
19
18
17
16
15
Debt to TA Debt to NW CC and ML to NW

5.4 Net Worth – We Own More Because We Owe More

Exhibit 5.6: Net Worth and Real Estate as a Percentage of Personal Disposable Income
700 310
290
650
270
600
250
Percent
550 230
210
500
190
450
170
400 150
NW as a Percentage of PDI Real Estate as a Percentage of PDI
Frequently, the growth of net worth is accompanied by a commensurable rise in real-estate owned by Canadians. Despite the
levelled out home prices between 2007 and 2009, the net-worth fell. This is a strong indicator of the limited real net worth growth
recorded between 2001 and 2010, with the largest bulk of nominal net worth rise coming from the real-estate price inflation.
5.5 CMHC – Closing the Barn Door After …

Exhibit 5.7: NHA Mortgage-Backed Securities
$160
CMHC Issued MBS (billion $)
$140
$120
$100
$80
$60
$40
$20
$0
Issued Amount
Source: CMHC;
The issuance of new MBS by Canada Mortgage and Housing Corporation fell to its 2006 level in July 2010. As of July 2010, CMHC had the grand
total of $694,246,415,930.59 in MBS outstanding, an equivalent of approximately 30 percent of the Canadian economy.

5.6 National Debt

Exhibit 5.8: Accumulated Federal Deficit
$600
$500
Deficit (billion $)
$400
$300
$200
$100
$0
Accumulated Deficit Forecast
A decade of national debt repayments came to a sudden stop in 2008 with the announcement of budget deficit by the Harper
government. The gains in debt repayment made over the 11 years between 1996 and 2007 will be fully erased by the end of 2011.

6 MUSINGS
6.1 Macroeconomic Risks – Where Is the Bright Spot?

China
The Chinese miracle appears to be coming to a big pause to say the least. Historically, the mystery of the double-digit Chinese GDP
growth during the global financial crisis sent the vibes of a seemingly unstoppable Chinese economic expansion. Much ink has been
spilled over the economic achievement of this country. However, very rarely the other side of the Chinese makes headlines. The
staggering emergence of the Chinese economy from the global recession was undeniably supported by an array of diverse factors.
While some of them can be described as fundamentally sound, the others were the typical carnival charlatan’s ―smoke and mirrors‖.
A $1.7 trillion lending program rolled out in 2009 certainly left its mark. If a similar program was implemented in Canada, it will
equate to giving away nearly $19,000 Canadian dollars to each person living in Canada, or $47,000 per average Canadian household.
If today your and every other typical 2.5-person Canadian household receives a letter with an enclosed cheque for $50,000 signed
―James Michael Flaherty‖, you can envision a nation-wide party it will cause. You can also picture the economic boost it will give to
the country. Homes, cars, and HD TVs sales will skyrocket overnight. The GDP will confidently grow in double-digit. The real
question is the growth sustainability and the long-term consequences of such give-away program. Many will argue that it was a
lending program, not a money give away. At the expected loan repayment rate of 73 percent, the program was evidently structured
for providing ―free money‖ to everyone without major provisions for recovering these loans. Things to watch for in China are:
 Handover caused by the $1.7T lending spree

 Loan write-downs and losses incurred by lenders, and subsequent needs for raising additional funds
 Effects of widespread large-scale non-productive projects, e.g. the ghost city of Ordos, 64.5 million mainland houses
allegedly lying vacant in China2 and other unknown, but equally engaging, fun and GDP-boosting projects
 Home prices 20-50 times of average household income of citizens who live in them
 Possible housing market collapse, as forecasted by a vast assortment of investors and academics
 Stress-testing announced by the Chinese banking regulators assessing the risk of a 60 percent price slump3
Some fear that developments in China will lead to an asset prices collapse on a massive scale. Others argued it may cause sluggish
growth, but nothing beyond it. In either case, the flow of ―free money‖ to be invested in overseas vacation homes will cease, and it is
highly likely that margin calls and loan repayment requests will demand a fire-sale disposal of investment properties abroad. Most
certainly, some of the foreign-owned properties will be used as assets tacked safely out of reach of domestic creditors. However,
this notion alone will not be enough to sustain the Canadian real-estate growth, if you believe it was financed by foreign investors.
Moreover, if worse-than-the-best scenario materializes, the demand for raw materials provided by Canada will dwindle, impacting
the broader Canadian economy. Easy come, easy go.
The US
As a major trading partner of Canada, the US and the health of its economy have direct effects on Canada. As much as the world
wants to see the US emerging from the Great Recession as quickly as it did in 2003, all signs suggest that the world’s largest
economy is not out of the woods quite yet. A quote from David Rosenberg of Gluskin Sheff (July 26, 2010) summarizes it all:
YOU KNOW YOU ARE IN A DEPRESSION WHEN
Congress moved to extend jobless benefits seven times, as has been the case over the past two years, at a time when almost half of
the ranks of the unemployed have been looking for at least a half year.
2
Fitch on Chinese Banks: http://www.scribd.com/doc/34351417/Fitch-on-Chinese-Banks-7-2010
3
http://www.bloomberg.com/news/2010-08-04/chinese-regulator-said-to-tell-banks-to-test-for-60-drop-in-home-prices.html

The unemployment rate for adult males (25-54 years) hit a post-WWII this cycle and is still above the 1982 recession peak, and the
youth unemployment rate is stuck near 25%. These developments will have profound long-term consequences – social, economic and
political.
The fiscal costs of the depression continue to mount, with the White House on Friday raising its deficit projection for 2011 to $1.4
trillion from $1.267 trillion. That gap in the forecast – $133 billion – was close to the size of the entire budget deficit back in 2002.
Amazing.
You also know it is a depression when you find out on the weekend that the FDIC seized and shuttered another seven banks, making
it 103 closures for the year. What a recovery!
Meanwhile, how are the surviving banks making money? By cutting their provisions for bad debts (at a time when the household
debt/income ratio is still near record highs of 120% and at a time when one-quarter of the consumer universe has a sub-600 FICO
score – which means they are also ineligible for Fannie or Freddie mortgage financing. The banks thus far have reduced their loan loss
reserves between 23% (Cap One) and 73% (First Horizon) – as Jamie Dimon said last week, these are not real earnings.
You also know it's a depression when a year into a statistical recovery, the central bank is still openly contemplating ways to stimulate
growth. The Fed was supposed to have already started the process of shrinking its pregnant balance sheet four months ago and is now
instead thinking of restarting Quantitative Easing. Of course, we are in this bizarre environment where bank credit continues to
contract – last week alone, bank wide consumer credit outstanding fell $2.2 billion; real estate lending contracted $9.2 billion; and
commercial & industrial loans slid $5.1 billion.
What did the banks do this past week? They replaced cash with government securities – the $47.5 billion net buying was the second
largest in the past three years. As the banks find few opportunities to lend – households are either not creditworthy enough to lend to
or are busy paying off debts and companies that do have any expansion plans have enough cash on their balance sheet to finance
their initiatives – they are likely to use their $1 trillion in excess reserves buying government and related securities, especially with the
yield curve so steep and the Fed ensuring that it has no intention of taking the 'carry' away for a long, long time.
Did we mention that you also know you are in some sort of depression when after two years of record $1+ trillion deficit financing to
kick-start the economy, the yield on the 5-year note is sitting at 1.8%? What do you think that tells you? It tells you that the private
credit market is basically defunct, especially when it comes to the securitized loans, which played such a critical role in promoting
leveraged economic growth from 2001 to 2007 – the amount of securitized credit that has vanished since the credit bubble burst two
years ago is $1.4 trillion – 40% of this market is gone. And what replaced it was this rampant government intervention into the
economy – aimed at putting a floor under the economy. But insofar as the government stimulus fades and the contraction in credit
persists, it will be interesting to see what sort of spending, output and income growth we are going to see in the near- and
intermediate-term4.
Europe
Unlike the US, Europe is in ―great shape‖. Only 7 out of 91 banks failed the much-assuring stress test. Sovereign default risk is non-
existent… Ah, who are we kidding? Unless Irish leprechauns found an endless supply of gold at the end of each rainbow to hand
over to ECB, the looming sovereign default risk, propensity of continental Europeans to engage in civil unrest, unclear debt and
deficit prospects of several EU members and great disparity between Euro as measured by the German economy strength and PIIGS
weakness will continue to cast a long dark shadow over Europe’s potential to lead the way out of this recession.
Canada
While Stephen Harper is scribing in his memoirs (leisurely sitting on a sandy shore of the artificial lake and listening to sounds of
artificial loons) about the once in a lifetime $1-billion party he managed to arrange, the Canadian unemployment rate edged a bit
higher.
4
http://pdf.cyberpresse.ca/lapresse/dufour/DRDepression.pdf

6.2 Amusing Findings – It’s All Good

Going through the latest Toronto Real Estate Board report 5 , I noticed the following number: ~30 percent. This is a TREB
affordability Indicator calculated by the board. The number is by a large margin out of sync with the estimates compiled by
Demographia and recent affordability measures calculated by RBC. It surely provides much-needed comfort to the Toronto-based
buyers, as many know that it is far below the ―danger zone‖. Back-of-the-envelope calculations (using the latest average home price
($435,064) and TREB’s assumptions for the city suggest that the average household income in Toronto is approximately $115,000.
Using the reported number of $485,000 for the average home price, the average Torontonian’s income rises to $125,000. Doesn’t
the mean $115,000-125,000 income in Toronto make an accomplished Bay Street banker feel a bit underpaid?
6.3 Chart of the Day – Remember NASDAQ in 2000?

Exhibit 6.5: Vancouver – Average Prices (1977 to 2010)
Source: REBGV;
No comments necessary (see the comparison chart below).
5
http://www.torontorealestateboard.com/consumer_info/housing_charts/index.htm

Exhibit 6.6: NASDAQ (1995 to 2000)
5500
5000
4500
4000
3500
Index
3000
2500
2000
1500
1000
500
Source: Bloomberg;

7 SCORECARD
Exhibit 7.1: Summary of Housing Market Indicators
Risk of Defaults
Price-to-Income
Macro Factors
Personal Debt
Price-to-Rent
Affordability
Rush To Sell
Inventories
Supply
Component Rank 9 9 8 6 5 10 6 4 8
Total Risk Rank 7.2
Outlook Negative
The scorecard explained:
- Price-to-income remains excessively high

- Price-to-rent is near its historical highs
- Un-affordability in Canada is above average, reaching explosive levels in Vancouver
- Home supply remains slightly elevated
- Inventories are in balance nationwide
- Personal debt reached unprecedented levels
- Risk of default is a notch above average
- Rush to sell rather resembles ―rush to buy‖ at the moment
- Macro factors signal turbulent times ahead
The scorecard measures the risk of buying real-estate in today’s market from the value perspective. The scale ranges from 0 to 10
where 5 is a historical average for each component. Component values below 5 indicate better than average conditions (the lower
the better), whether values above 5 signal the opposite. The final ranking is an average of the 9 factors important to the market
health. Generally, the Risk Rank below 3 suggest an exceptional conditions for buying, while the rank above 7 suggests avoiding real-
estate market altogether.
The ―outlook‖ shows an estimated direction of near-term market changes.

DATA SOURCES
Bank of Canada Statistics

http://www.bankofcanada.ca/en/rates/index.html
Canada - Consumer Price Index (CPI) History

http://www.rateinflation.com/consumer-price-index/canada-historical-cpi.php
Canada Mortgage and Housing Corporation (CMHC)

http://www.cmhc-schl.gc.ca/
Canada Mortgage and Housing Corporation (CMHC) MBS

http://www.cmhc-schl.gc.ca/en/hoficlincl/mobase/index.cfm
Canoe Mortgage Rates

http://money.canoe.ca/rates/mortgage_close.html
Case-Shiller
http://www.standardandpoors.com/home/en/us
Citizenship and Immigration Canada

http://www.cic.gc.ca/english/resources/statistics/facts2008/permanent/10.asp
CREA
http://www.crea.ca/public/news_stats/statistics.htm#
CREB – Calgary Real Estate Board

http://www.creb.com/public/seller-resources/housing-statistics.php
Demographia
http://www.demographia.com/dhi.pdf
GMREB – Greater Montreal Real Estate Board

http://www.cigm.qc.ca/indexen.aspx
MLS
http://www.realtor.ca
Organisation for Economic Co-operation and Development (OECD)

http://www.oecd.org
Organisation for Economic Co-operation and Development (OECD) Annex Table 60: House price ratios
http://www.oecd.org/dataoecd/6/5/2483894.xls
Organisation for Economic Co-operation and Development (OECD) Production and Sales (MEI)
http://stats.oecd.org/Index.aspx?DataSetCode=MEI_REAL
Organisation for Economic Co-operation and Development (OECD) Statistics

http://www.oecd.org/statsportal/0,3352,en_2825_293564_1_1_1_1_1,00.html
REBGV - Real Estate Board of Greater Vancouver

http://www.rebgv.org
Statistics Canada
http://www.statcan.gc.ca/
Royal Bank of Canada - RBC

http://www.rbc.com/economics/market/pdf/house.pdf

Teranet – National Bank House Price Index

http://www.housepriceindex.ca/Default.aspx
TREB – Toronto Real Estate Board

http://www.torontorealestateboard.com/consumer_info/market_news/index.htm

ACKNOWLEDGEMENTS
I am grateful to Jeff Stuart for his editing assistance.
Jeff Stuart is the President of King James Capital, a private corporation that provides comprehensive services to publicly listed
companies in a professional and cost effective manner. Services include corporate finance, investor relations and corporate
communications. In addition, Jeff provides a range of editing, sales and marketing services for select newsletter writers in the mining
sector. A frequent speaker at mining investment conferences, Jeff’s years of experience as an insider and background as a licensed
investment advisor provide him with unique and balanced insights into the successful development of junior resource companies.
More information on Jeff’s business development process can be found at kingjamescapital.com

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Alexandre Pestov

Before continuing with the report, some housekeeping work:

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 1 of 35

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 2 of 35

Market Risk Rank Outlook

7.2 (High) Negative

Please direct all inquiries regarding this report to alec.pestov@yahoo.com

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 3 of 35

1.1 Prices – Past the Tipping Point?

Composite Calgary Montreal Toronto Vancouver

Source: Teranet – National Bank House Price Index;

Exhibit 1.2: Nominal Prices

Canada Calgary Montreal Toronto Vancouver

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 4 of 35

Exhibit 1.3: New Housing Price Index

May 09 Apr 10 May 10 April to May 2009 to

Source: Statistics Canada;

1.2 Sales Volumes – A Glimpse of Things to Come

Exhibit 1.4: Sales Volumes

Calgary Montreal Toronto Vancouver

Source: CREB; GMREB; TREB; REBGV;

1.3 Sales Break-Down – Noticed the New Trend?

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 5 of 35

Exhibit 1.5: Calgary Sales Distribution

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 6 of 35

Montreal and Vancouver

Dwelling Starts Dwelling Completion Dwellings Under Construction

Exhibit 1.8: Residential Dwelling Starts

June 2009 June 2010

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 7 of 35

Exhibit 1.9: Residential Dwelling Completions

June 2009 June 2010

1.5 Inventories and Market Balance – Shifting Away from Sellers

Source: CREB; GMREB; TREB; REBGV;

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 8 of 35

Exhibit 1.11: Market Balance in Key Metro Markets (May 2010)

Source: Royal Bank of Canada, May 2010;

1.6 Rental Statistics – No Shortage of Living Space

National Alberta Quebec Ontario BC

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 9 of 35

Oct-05 2.9 3 2.1 3.7 1.9

National Alberta Quebec Ontario British Columbia

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 10 of 35

2.1 Interest and Mortgage Rates – Leaving the Wonderland

Bank Rate 5-year Posted Fixed Rate

Source: Bank of Canada;

BMO CIBC RBC ScotiaBank TD Bank

Source: BMO; CIBC; RBC; BNS; TD;

Exhibit 2.4: 5-Year Fixed Mortgage Rate 2011 Forecast

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 11 of 35

2.3 Yield Curve – Re-Normalizing

2010-02 2010-04 Typical Yield Curve

Source: Bank of Canada;

Exhibit 2.6: Projected Yield Curve Changes

Source: CIBC World Markets;

2.3 Posted Mortgage Rates – Prudent Bankers

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 12 of 35

ATB FINANCIAL 4.75 3.50 3.85 4.40 5.44 4.39

Institution Variable 6 Mth Op 6 Mth Con 1 Yr Op 1 Yr Con 2 Yr Op

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 13 of 35

COAST CAPITAL SAVINGS CU 3.45 5.75 n/ 4.15 n/ n/

The Elusive Canadian Housing Bubble Summer 2010 Edition Page 14 of 35

3.1 The Present – Not So Bright and Shiny