# Complacency about Canadian banks



## james4beach (Nov 15, 2012)

I think it's good to be critical of the Canadian banks. Their performance has been incredibly good in the last few years and many investors over-weight them. I continue to keep my bank exposure less than 20%, much less than their whopping *40%* weight in the TSX 60 index.

http://etfdailynews.com/2017/03/23/canadian-banks-could-be-in-deep-trouble/

Here are some points the article raises about Canadian banks:

- The fragilities can be seen in an IMF report, which calculated that Canada’s financial sector accounted for a stunning 500% of GDP in 2012. Today, the assets of the Big Six banks alone are more than double the size of the country’s economy.

- As David Macdonald demonstrated in a paper for the Canadian Center for Policy Alternatives, Canada’s Big Banks benefited from nearly $114 billion in cash, liquidity, and other bailout help from both local and US sources following the financial crisis.

- “Three of Canada’s banks – CIBC, BMO, and Scotiabank – were at some point under water,” Macdonald writes. “With government support exceeding the value of the company.” (link to report)

- “Canada’s Fannie Mae” (the CMHC) has guaranteed more than $500 billion in mortgages; almost as much as the US GSEs did relative to GDP prior to the 2008 crisis.

- Because Canadian real estate prices never collapsed during the 2008 financial crisis to the degree they did in the US and the UK (let alone Japan), regulators, investors and analysts are totally unprepared for any such eventuality.

- Canadians are in debt up to their eyeballs. According to Statistics Canada the ratio of household credit market debt (this excludes government, financial and business debts) reached a record 166.9% of disposable income in the third quarter of 2016.

- Almost unnoticed during the 2008 financial crisis, was that Big Four audit firms all happily signed the financial statements of global big banks, including those in Canada, which only months later proved to be insolvent.


This doesn't mean that bank stocks are going to fall, but I think it's good context to have. I do have some Canadian bank exposure.


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## My Own Advisor (Sep 24, 2012)

Good post and will be a good thread.

Just some quick comments...more floating in my head 

1. We all want banks to succeed to a great degree. They underpin our economy. 
2. Agreed - banks have provided great returns and likely always will given their business, however, I wouldn't want to be overweight in them either - I think whatever the index calls for (in VCN, XIU, XIC, ZCN, etc.) is just fine (30-40% weight) but not much more. I wouldn't go over 50% let's put it that way. (I don't).
3. "Canadians are in debt up to their eyeballs. According to Statistics Canada the ratio of household credit market debt (this excludes government, financial and business debts) reached a record 166.9% of disposable income in the third quarter of 2016." While a good fact, blaming banks is not the issue. It's like saying people are too fat because there are too many McDonald's. Really? Adults need to use their brains 
4. I do care about the falsification of any records but I have no control over this activity, other than voting with my ballot and wallet to the extent possible.


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## mordko (Jan 23, 2016)

Big Four happily signed the financial statements of big banks because the statements were correct. Some of the products and assets proved to be toxic and wrongly ranked by the rating agencies but I don't see how an accountant can possibly be held responsible for that. It's not an accountant's job to judge whether derivitives are going to make or lose money or whether the rating agency misjudged risks for a particular bond.


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## mordko (Jan 23, 2016)

But the debt issue is an interesting one. Are we the most endebted country in the world if one were to add the debt of all citizens and various levels of governments? Not sure but we are certainly up there. Has to be a massive risk. Still, fire won't start without a sparkle.


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## Eclectic12 (Oct 20, 2010)

james4beach said:


> I think it's good to be critical of the Canadian banks. Their performance has been incredibly good in the last few years and many investors over-weight them. I continue to keep my bank exposure less than 20%, much less than their whopping *40%* weight in the TSX 60 index.


Good thing on the ETF front, I'm using XIC ... though I'm pretty sure I'm more conservative at I think I'm around 12% for the investments I control.


Cheers


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## james4beach (Nov 15, 2012)

There's an interesting graph somewhere of that debt-to-income ratio, between US & Canada, and how the US's crashed after the financial crisis but Canada's kept going higher. That's one graph that has always worried me. The US actually *de-leveraged*, which is healthy. Canada did not.


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## james4beach (Nov 15, 2012)

Eclectic12 said:


> Good thing on the ETF front, I'm using XIC ... though I'm pretty sure I'm more conservative at I think I'm around 12% for the investments I control.


I'm a fan of index ETFs but I don't like this huge weight in banks. A couple interesting broad exposure ETFs are CDZ with 22% financials and ZLB with 24% financials. However it remains to be seen if those actually outperform XIU long term ( with its amazing 7.12% return since inception in 1999 )


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## mordko (Jan 23, 2016)

My stock component is 24% financials, but that's worldwide. Right now less than 30% in Canada. Total exposure to Canadian finance is circa 8%; large but not crazy.


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## Just a Guy (Mar 27, 2012)

Umm, since banks make money off of lending it out, doesn't it kind of make sense that, with Canadian personal debt at an all time high, banks are doing extremely well?

The problem, if it comes, won't be with the banks, it'll be with the deadbeats who refuse to pay back what they borrowed. Because of that, the Canadian government will have to step in and repay on behalf of its citizens who it represents. </sarcasm...though, now that I wrote it, it does kind of make sense>

Maybe the government should implement a stupidity tax, the revenues of which will go to pay off their bad debts in the future.


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## My Own Advisor (Sep 24, 2012)

"Maybe the government should implement a stupidity tax, the revenues of which will go to pay off their bad debts in the future."

Potentially.

A man goes to a buffet at a restaurant. 
There is enough food for 40 people. 
Man eats so much food he gets a stomach ache that lasts a few days.
When man asked _why he ate so much food_ - his response: "Well, the food was there! It's the restaurants' fault!"

This is sadly the common behaviour amongst many adults.

An aside note....if you're an indexer, you shouldn't really care about financials or energy or other weights in the index. You simply accept market returns and cap market weighting. Otherwise you are speculating (like an active investor would). Thoughts?

If you're really concerned about Canadian banks then you limit your CDN content and invest abroad.


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## Argonaut (Dec 7, 2010)

In Canada we have some terrific stocks, but the TSX is a terrible index. So imbalanced. I agree that the financial component is too high. The banks have done very well in the past couple of years, and my bank allocation drifted away from the earmarked 20%. I feel happy with re-jigging it back to around where my other holdings are when the TD story hit.



mordko said:


> But the debt issue is an interesting one. Are we the most endebted country in the world if one were to add the debt of all citizens and various levels of governments? Not sure but we are certainly up there. Has to be a massive risk. Still, fire won't start without a sparkle.


Likely nowhere close to countries like Switzerland and Japan.


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## fplan (Feb 20, 2014)

That means we are all in trouble whether you made good decision or bad decision ..when banks make less money their stock prices will go down. Any body investing in TSX index will be same as a guy buying RE in GTA at very high prices.. when things won't work both lose money..


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## Benting (Dec 21, 2016)

Have you all thought of why all these funds have more than 30% explosure in bank stocks ? It must be a good investment for ALL of them do this.

Well, in more than 20 years of investment, I never have less than 70% in bank (TD and RY) stocks in my pofolio. Buy and hold, never sell any but added more every working years. I have retired for a few years, now it is more than 90%. Do I feel worried, NO ! Sure, I can sell and take some profit. The question is what to do with it ? Any good sure fire investments out there ? GIC ? interest rate is just too miserable. Bond ? not much better than GIC. I might as well stay on with my current plan. Play a bit with my dividends in short term to keep me busy . Bank stocks are for long term. Buy and hold and enjoy the ride.........


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## Eder (Feb 16, 2011)

An investor should let the profits run & trim the losers...most do the opposite. Silly to sell the fastest growing businesses in Canada. I'm not complacent, but like to make money(token 20 year RY graph here). If things change I will also change.


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## mordko (Jan 23, 2016)

Based on private debt to GDP ratio, Canada is number 6 in the world and moving up the rankings like there is no tomorrow: http://www.tradingeconomics.com/canada/households-debt-to-gdp


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## mordko (Jan 23, 2016)

Benting said:


> Have you all thought of why all these funds have more than 30% explosure in bank stocks ? It must be a good investment for ALL of them do this.
> 
> Well, in more than 20 years of investment, I never have less than 70% in bank (TD and RY) stocks in my pofolio. Buy and hold, never sell any but added more every working years. I have retired for a few years, now it is more than 90%. Do I feel worried, NO ! Sure, I can sell and take some profit. The question is what to do with it ? Any good sure fire investments out there ? GIC ? interest rate is just too miserable. Bond ? not much better than GIC. I might as well stay on with my current plan. Play a bit with my dividends in short term to keep me busy . Bank stocks are for long term. Buy and hold and enjoy the ride.........


If I read this right, you are retired and you have 90% of your assets in 2 bank stocks. 

In my opinion you ought to feel worried. This is a bet. And the probability of it going wrong is not acceptable for anyone, let alone someone who is retired. Yes, historically these 2 stocks did great. No this does not tell us anything about the future.


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## james4beach (Nov 15, 2012)

It sounds like Benting has something like 45% in TD and 45% in RY. Absolutely this is dangerous -- incredibly high exposure both to a single stock and single sector. And what a great opportunity right now, after such a huge rally in banks, to lock in profits and diversify more broadly.


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## Argonaut (Dec 7, 2010)

Yeah, 90% exposure to banks is even crazier than the overweight that's in the TSX. Even the simple practice of throwing a telecom in there would have given you similar or better performance in the past several years and also reduced your risk. Diversification is your friend. It's also a free lunch.


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## james4beach (Nov 15, 2012)

Using Argo's style of equal weight Canadian exposure has worked out well for me. I switched away from the TSX index late last year once back-testing this over 10 years convinced me that equal weighting is a better approach. My primary portfolio is now { BCE, CNR, FTS, RY, SU } based on the top stocks in each XIU sector.

Since Sept, the total return of the equal weighted group is 11.5% vs 8.7% for XIU, so it's not like I'm suffering due to my lower financials weighting.


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## 30seconds (Jan 11, 2014)

James why Suncor over a pipeline? And why no consumer products like you had listed in your Slice and Dice?


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## NorthernRaven (Aug 4, 2010)

james4beach said:


> The fragilities can be seen in an IMF report, which calculated that Canada’s financial sector accounted for a stunning 500% of GDP in 2012. Today, the assets of the Big Six banks alone are more than double the size of the country’s economy.


This is lazy hyperbole. What does this number indicate about the economy, and what is a "reasonable" range for this value? The 500% number in the IMF report PDF here) 
refers to assets, so that's our mortgages, our stock holdings, our RRSPs, and other accumulated wealth. If we reduce the ratio, where does this wealth go? Presumably different countries have different ratios of their wealth in the "financial sector" rather than counted elsewhere. And some countries (like Switzerland) will have large asset balance books in the financial sector from foreign asset management, pushing this ratio up. I couldn't quickly find a summary table of comparable IMF numbers for other countries, but France is also in the 500% ballpark I think, and Germany at least 300%? Unless someone wants to actually break down what is going into our 500% figure and point out the risky bits, this is just a "scary large number" without much context for me, although it may incorporate whatever problems we may have with consumer debt and mortgages.



james4beach said:


> - As David Macdonald demonstrated in a paper for the Canadian Center for Policy Alternatives, Canada’s Big Banks benefited from nearly $114 billion in cash, liquidity, and other bailout help from both local and US sources following the financial crisis.
> 
> - “Three of Canada’s banks – CIBC, BMO, and Scotiabank – were at some point under water,” Macdonald writes. “With government support exceeding the value of the company.” (link to report)


I've seen this one before - something like CCPA is going to have its own particular slant on things, but I'd want some sort of reliable evaluation of the use of "under water" and some of the other rhetoric, and what would be considered aggressive liquidity support. Perhaps the banks should have "paid" more for support, but I'm not convinced that there was some huge giveaway. The government _is_ the lender of last resort, and no-one in 2008 was interested in providing less than adequate support in a fairly unprecedented crisis.

In the US, the Fed was taking all sorts of toxic assets across its discount window - American subprime mortgages, already shaky by Canadian standards, were turned into weird derivative products that were effectively guaranteed to fail given a pervasive national downturn in housing prices, which the modelling implicitly didn't account for. Canadian mortgage securities are much more "vanilla" (as I understand it), and weren't at the time (and didn't turn out to be) that sort of insolvency risk. 



james4beach said:


> - “Canada’s Fannie Mae” (the CMHC) has guaranteed more than $500 billion in mortgages; almost as much as the US GSEs did relative to GDP prior to the 2008 crisis.


One has to be careful about comparing apples and oranges. The US mortgage market had a substantial amount of completely unjustified mortgages, even with flat house prices. Those weird option-ARM mortgages, teaser rates and ninja no-docs had a chunk of the market that needed increasing house prices just to keep refinancing these untenable terms. Assuming Canadian equivalents are much less prevalent, absolute levels at CMHC (and equivalent govt guarantees on their private competitors) could approach the US GSEs without necessarily being some sort of red flag.



james4beach said:


> - Because Canadian real estate prices never collapsed during the 2008 financial crisis to the degree they did in the US and the UK (let alone Japan), regulators, investors and analysts are totally unprepared for any such eventuality.


I doubt our regulators have been sitting by like Mr. Magoo just because we didn't have our own catastrophe. Whatever our state of readiness, 2008 will have provided a sharp wakeup call and at least some shaking out of potential problems.



james4beach said:


> - Canadians are in debt up to their eyeballs. According to Statistics Canada the ratio of household credit market debt (this excludes government, financial and business debts) reached a record 166.9% of disposable income in the third quarter of 2016.


This, and whether there could be a serious "hard landing" in the housing market, is the main question, isn't it.



james4beach said:


> - Almost unnoticed during the 2008 financial crisis, was that Big Four audit firms all happily signed the financial statements of global big banks, including those in Canada, which only months later proved to be insolvent.


If that means "insolvent banks in Canada", that would certainly be hyperbole.


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## james4beach (Nov 15, 2012)

30seconds said:


> James why Suncor over a pipeline?


I choose the largest weight in each XIU sector. At my last rebalance, Suncor was the heaviest weight in the XIU energy sector. However today I see Enbridge has become the heaviest weight so it will replace Suncor at the next rebalance, if things remain like this.



> And why no consumer products like you had listed in your Slice and Dice?


I didn't like what it did to risk vs return. Consumer stocks added volatility but did not add more return in my back test. I've eliminated them entirely, like Tech and Pharma.


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## mordko (Jan 23, 2016)

1 that's why cap weighted indices have an advantage. The need to trade is generated only when companies join or leave or (rarely) to rebalance and the level is minimal. 

2. Having largest companies by sector introduces the Valeant/Enron/Lehman type risk.


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## james4beach (Nov 15, 2012)

mordko said:


> 2. Having largest companies by sector introduces the Valeant/Enron/Lehman type risk.


True, and my back test included the years where BBD.B collapsed (-29% in 2001 followed by -67% in 2002). The back tested portfolio held Bombardier while it crashed 80%. And yet, my equal weighted portfolio still beat XIU in both 2001 and 2002. It did however lag in 2003, the recovery after the bear.


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## mordko (Jan 23, 2016)

I am kinda sceptical of the value of backtesting fullstop. Forward testing is a far superior technique.


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## My Own Advisor (Sep 24, 2012)

james4beach said:


> Using Argo's style of equal weight Canadian exposure has worked out well for me. I switched away from the TSX index late last year once back-testing this over 10 years convinced me that equal weighting is a better approach. My primary portfolio is now { BCE, CNR, FTS, RY, SU } based on the top stocks in each XIU sector.
> 
> Since Sept, the total return of the equal weighted group is 11.5% vs 8.7% for XIU, so it's not like I'm suffering due to my lower financials weighting.


+1 Work your way up to a 12-pack or eventually a "24" and own the top 3-5 "TULF" stocks directly. (Telcos, Utilities, Low-Yield Dividend Growers (e.g, CNR, CP), Financials). Then you'll really be cooking with dividends and appreciation


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## OhGreatGuru (May 24, 2009)

james4beach said:


> ...
> 
> 
> - As David Macdonald demonstrated in a paper for the Canadian Center for Policy Alternatives, Canada’s Big Banks benefited from nearly $114 billion in cash, liquidity, and other bailout help from both local and US sources following the financial crisis.
> ...


That is an interesting "spin" on what actually happened in 2008-2010. My, how people's memories are short, or clouded by ideological bias.

In the normal course of business, the banks would "bundle" mortgages (as mortgage- backed securities, or Mortgage mutual funds, or some other vehicle); and resell them on markets to raise more operating capital. But due to the International financial crisis (started in large part by sub-prime lending in the US) there were suddenly no buyers, because their US and international customers were too busy paying off their bad debts, and had no money to invest in Canadian mortgages. So the government stepped in and bought those investment vehicles instead to solve the banks' liquidity crisis. The alternative was for the banks to stop mortgage lending, bringing all construction to a halt, and probably producing a general real estate collapse. The taxpayer never lost a dime on these "bailouts", which were sound short-term investments.


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## mordko (Jan 23, 2016)

Isn't it great how the words change meaning over time? Investment used to mean putting a dollar into a project and expecting 2 dollars back a little later. Now the government is "investing" in childcare, affordable housing plus millions of dollars for people to sit and talk about gender equality. 

Saving Canadian banks may have been worthwhile but it was not "investment". The taxpayer took on the risk for no payment whatsoever.


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## doctrine (Sep 30, 2011)

I'll just point out that under-weighting the Canadian banks has been a poor investment strategy for at least 40 years, as the long term average return has exceeded that of the TSX. Past performance/future results caveat of course. Despite the so-called "run-up", some Canadian banks, like NA and CM, are *still* trading at discounts to historical averages. CIBC has been growing its earnings so quickly, despite ~25% year over year return, the stock has slipped below a 10 P/E. NA at about 10.4. I would add to both today.


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## birdman (Feb 12, 2013)

OhGreatGuru said:


> That is an interesting "spin" on what actually happened in 2008-2010. My, how people's memories are short, or clouded by ideological bias.
> 
> In the normal course of business, the banks would "bundle" mortgages (as mortgage- backed securities, or Mortgage mutual funds, or some other vehicle); and resell them on markets to raise more operating capital. But due to the International financial crisis (started in large part by sub-prime lending in the US) there were suddenly no buyers, because their US and international customers were too busy paying off their bad debts, and had no money to invest in Canadian mortgages. So the government stepped in and bought those investment vehicles instead to solve the banks' liquidity crisis. The alternative was for the banks to stop mortgage lending, bringing all construction to a halt, and probably producing a general real estate collapse. The taxpayer never lost a dime on these "bailouts", which were sound short-term investments.


Totally agree with your comments and the government providing liquidity to the banks is certainly not a bailout but only performing a function of what the institution was designed for. See http://www.bankofcanada.ca/markets/...-operations-liquidity-provision/?#market-wide
In my previous life running a smaller financial institutions (a credit union) we too would occasionally start to be a little tight on liquidity and would bundle up mortgages and sell them to a credit union that needed mortgages and it was a win win for both institutions. F/I's are required to keep a certain minimum level of liquidity (used to be 10% when I worked) and they usually have an internal target of something higher (ours was 12-15%). We also had back up credit lines at a chartered bank and the Central Cr. Union. I believe the latter had access to additional credit facilities through the B of C. Internally, managing liquidity was performed by increasing rates on loans and mortgages to discourage lending or increasing GIC rates to attract more deposits. It was a bit of a balancing act that have to be managed closely; however, the term "bailout" is not correct. In a worse case scenario the F/I's could simply call some of their demand loans but then think of the mess the country would be in. As I retired in 2001, I have not delved into the 2008 crisis I suggest the Bank of Canada was just doing what is was designed to do. No big deal in my opinion and do not agree that is was "saving the Canadian Banks" which happen to comprise 45% of my stock portfolio. I love them.


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## james4beach (Nov 15, 2012)

mordko said:


> Saving Canadian banks may have been worthwhile but it was not "investment". The taxpayer took on the risk for no payment whatsoever.


Right. Not only that, but shareholders in bank stocks *and depositors* were kept in the dark. Because the details were kept secret, these vital stakeholders were not aware of how much risk they were taking on.



OhGreatGuru said:


> That is an interesting "spin" on what actually happened in 2008-2010. My, how people's memories are short, or clouded by ideological bias.
> 
> In the normal course of business, the banks would "bundle" mortgages (as mortgage- backed securities, or Mortgage mutual funds, or some other vehicle); and resell them on markets to raise more operating capital. But due to the International financial crisis (started in large part by sub-prime lending in the US) there were suddenly no buyers, because their US and international customers were too busy paying off their bad debts, and had no money to invest in Canadian mortgages. So the government stepped in and bought those investment vehicles instead to solve the banks' liquidity crisis. The alternative was for the banks to stop mortgage lending, bringing all construction to a halt, and probably producing a general real estate collapse. The taxpayer never lost a dime on these "bailouts", which were sound short-term investments.


But these were secret, undisclosed lending programs. They were not shown on the financial statements and not disclosed to investors.

If a bank needs a loan, or asset swap with government help, fine ... but it should be fully disclosed to investors so that they can make an informed decision. Because these facilities were all kept secret, and not fully disclosed, investors were not making informed decisions.


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## james4beach (Nov 15, 2012)

I am unhappy about that government assistance and bailout activity because the banks and government did not disclose highly relevant details to stakeholders, especially depositors.

Concealing this information means they lied to depositors. Banks like CIBC and BMO accepted new deposits, falsely representing their situation as solvent & liquid, whereas in fact they were highly dependent on daily support from the government.

*Imagine if the govt support had been insufficient to keep the banks afloat*. Suddenly CIBC collapses, with billions in deposits. This is too much for the CDIC to handle and all hell breaks loose... depositors have been lied to by CIBC and by the government. Ministers, executives, CEOs are sued for misrepresenting the financial state of the banks. Ernst & Young (CIBC's auditors) are sued by class action and go out of business -- because they lied too.

That's what would have happened if the government support wasn't quite enough. The ends do not justify the means -- just because it worked out doesn't mean it wasn't fraud.


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## Rusty O'Toole (Feb 1, 2012)

When banks loaned out depositors' money and kept adequate reserves there was no chance of a liquidity crisis. The crisis was a symptom of shady dealings that had been going on for years. Banks lining their pockets by doing deals they knew were unsound and depending on the taxpayers to bail them out. This is why we used to have laws regulating banks and trust companies, and why when we did have a bankruptcy in the financial sector it was small, easily contained, and did not affect the larger economy.


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## Eder (Feb 16, 2011)

frase said:


> Totally agree with your comments and the government providing liquidity to the banks is certainly not a bailout but only performing a function of what the institution was designed for. As I retired in 2001, I have not delved into the 2008 crisis I suggest the Bank of Canada was just doing what is was designed to do. No big deal in my opinion and do not agree that is was "saving the Canadian Banks" which happen to comprise 45% of my stock portfolio. I love them.


@Frase & OGreat Guru...it has been explained on this site many times why Canadian banks receiving loans to ensure liquidity was much different than the rot down South, but it makes a better story to claim our banks were bankrupt. I wouldn't waste my time reexplaining here.


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## NorthernRaven (Aug 4, 2010)

james4beach said:


> Concealing this information means they lied to depositors. Banks like CIBC and BMO accepted new deposits, falsely representing their situation as solvent & liquid, whereas in fact they were highly dependent on daily support from the government.
> 
> *Imagine if the govt support had been insufficient to keep the banks afloat*. Suddenly CIBC collapses, with billions in deposits. This is too much for the CDIC to handle and all hell breaks loose... depositors have been lied to by CIBC and by the government. Ministers, executives, CEOs are sued for misrepresenting the financial state of the banks. Ernst & Young (CIBC's auditors) are sued by class action and go out of business -- because they lied too.
> 
> That's what would have happened if the government support wasn't quite enough. The ends do not justify the means -- just because it worked out doesn't mean it wasn't fraud.


I think you are carelessly throwing around words like "solvent" and "liquid", which also don't mean the same thing. If CIBC had, say, a $5 billion chunk of Canadian mortgage securities, but it is difficult to make a market for those sorts of securities during the great crisis, it doesn't necessarily mean they aren't still "worth" $5 billion or whatever. The securities still have their cash flows, subject of course to the performance of the underlying mortgages. If they are used as collateral at the Bank of Canada window, or bought by CMHC in an expanded support program during the crisis, what the government is doing is exchanging liquidity (cash) for assets of hopefully equal value. It isn't throwing money into the banking pit for nothing. Frankly, some additional transparency might be nice, a higher cost attached to these measures, perhaps, but I have no interest in having the banking system blown up, which would be the first concern.

Also, I suspect that CIBC had hypothetically been forced to unwind its balance sheet, it wouldn't have even have been close to "insolvent", in the sense that whatever vulture pricing it would have received for its assets, and its capital buffers, would have been sufficient to cover its liabilities, and CDIC wouldn't have had "too much to handle", which is a meaningless phrase since they have a giant backstop from the federal government. But only a lunatic would blow up a systemic bank on some misguided point of principle in a crisis. Even many figures in the US feel Lehman was handled poorly, and it certainly wasn't as important there as CIBC would have been here.


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## kcowan (Jul 1, 2010)

There is no question that the Canadian Banks suffered a massive liquidity crisis. But I do not think it was hidden. Yes it was unusual for the CDIC to purchase the massive illiquid mortgage portfolios. But then the worldwide liquidity crisis was pretty unusual.


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## mordko (Jan 23, 2016)

It was a transfer from the taxpayer to the shareholder and the taxpayer wasn't compensated. The shareholder did very well but in the long term it created a perception among investors that owning banks carries no risk as the taxpayer is always going to be there to back you up. That's dangerous for both.


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## Eder (Feb 16, 2011)

The Bank of Canada fulfilled its function. Hopefully it will continue to do so.


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## Benting (Dec 21, 2016)

mordko said:


> It was a transfer from the taxpayer to the shareholder and the taxpayer wasn't compensated. The* shareholder did very well *but in the long term it created a perception among investors that owning banks carries no risk as the taxpayer is always going to be there to back you up. That's dangerous for both.


There is an old saying "if you cannot beat them, then join them"


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## james4beach (Nov 15, 2012)

Benting said:


> There is an old saying "if you cannot beat them, then join them"


Things could play out very differently next time. The secretive 2008 bailouts of Canadian banks created the perception among bank shareholders that "bank stocks are great investments because the government will bail out the giant banks".

This feeling is pervasive among CMF members, for example.

But the big problem is that Canadian banks actually just got lucky that they didn't have to raise capital by aggressively issuing more shares. Other global banks did: Citigroup, Bank of America, Deutsche Bank are a few examples of banks that *have been bailed out* and whose *shares have permanently crashed*, because they had to raise enormous levels of capital.

There are many retirees who are aggressively investing in the big five, performing a capital allocation mistake. Yes the government will obviously bail out big Canadian banks, and protect the deposits and core businesses. However, this does not guarantee that the equity will be preserved. Indeed, equity could be totally wiped out during a bail out of the future.

A government bailout or central bank assistance does not necessarily preserve bank equity. You might find yourself holding worthless equity in the future, even though the bank survives & thrives.


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## Eclectic12 (Oct 20, 2010)

Rusty O'Toole said:


> When banks loaned out depositors' money and kept adequate reserves there was no chance of a liquidity crisis ... This is why we used to have laws regulating banks and trust companies, and why when we did have a bankruptcy in the financial sector it was small, easily contained, and did not affect the larger economy.


Do you have some sources to show this? Or maybe a detailed analysis?

Using bank failures, for two of the last three (i.e. '85 - '86) what was reported is that that the Canadian gov't arranged with the big five banks to give the two banks that were of concern a liquidity loan to draw on, two years before they failed. They drew on it for two years before the failure.

Using a liquidity arrangement for two years before failing does not match up with what it looks like you are saying.


Cheers


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## birdman (Feb 12, 2013)

Liquidity and confidence in the banking system is critical to not only the success of the Bank but to the country itself. As I have mentioned before F/I's have many tools to deal with this including access to capital markets, selling assets, carrying a certain level of liquidity, having a prescribed level of equity, and I presume credit lines with other institutions. Further liquidity support is available through the Bank of Canada. So, what happens if all these fail and depositors and investors start selling their shares and withdrawing their deposits? The answer seems simple in that the problem gets bigger and the cost of borrowing by the bank goes up, profits decline, people quit buying their bonds, and you have a run on the bank. Then, it spreads to the next bank and other F/I's. The depositors line up for their cash and the bank stops lending. If this continues they have to start calling in their demand loans to all the businesses they lend to and then they in turn fail. There is massive unemployment, the government prints more money and the dollar falls 90%, you have panic, and on and on it goes. There is no end. If you believe this is going to happen I suggest you buy some gold or leave our wonderful country and go work and live somewhere else. I do not know exactly what some are referring to as "bailouts" and other negative terminology nor am I intent on persuing it further. If it refers to "liquidity" then lets call it that. If the government provided liquidity to the banks to protect them (as opposed to letting them fail) then fine-good for them, they did the right thing. If it was not disclosed perhaps this was the right thing to do as perhaps it could create panic. The last thing we need is for our financial system to fail and if it does I hope it is not brought about by our government not providing some temporary liquidity. No more reading this thread for me-just my thoughts and I'm certainly not going to worry about it.


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## yyz (Aug 11, 2013)

It's just another banks are evil thread with the same story line but the OP is also invested in the banks.
Seems to be talking out of both sides of the mouth spreading fear but also invested in them?


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## james4beach (Nov 15, 2012)

I hold some shares in banks and am aware of just how badly the equity can fall. Every investor should understand the risks of their investments.

If there are serious banking problems again and if the government supports the banks, their shares could drop very substantially. This is because the primary way banks raise more capital is to issue more equity. American and European investors learned this, but Canadian investors have not learned it yet.

There is a still a misconception around CMF that "banks won't be allowed to fail" is the same thing as "bank stocks can't fall". Nothing could be further from the truth. Many large global banks have been bailed out, but their share prices have crumbled.

Article: What Is Bank Capital, Anyway?


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## Eclectic12 (Oct 20, 2010)

james4beach said:


> I hold some shares in banks and am aware of just how badly the equity can fall. Every investor should understand the risks of their investments.


Agreed.




james4beach said:


> There is a still a misconception around CMF that "banks won't be allowed to fail" is the same thing as "bank stocks can't fall". Nothing could be further from the truth. Many large global banks have been bailed out, but their share prices have crumbled.


Odd ... the claim earlier was that Canadian banks *did* have bailouts like the Global banks. It would seem all bailouts are not equal.


Cheers


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## james4beach (Nov 15, 2012)

I think what the Canadian banks got would qualify as a bailout. But the Canadian banks were doing much better than US & European banks so they were not in as rough shape and didn't have as bad a deterioration to dig themselves out from.

For example, Canadian real estate had not crashed. But European and American RE had crashed quite badly.


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## yyz (Aug 11, 2013)

james4beach said:


> I hold some shares in banks and am aware of just how badly the equity can fall. Every investor should understand the risks of their investments.
> 
> If there are serious banking problems again and if the government supports the banks, their shares could drop very substantially.
> 
> [/URL]


Lot of ifs so what IF nothing like that happens?

Of course people should understand the risk of investments but you seem to always be looking at the worst scenario.Heck last week you were worried about getting kicked out of the US because nurses in Michigan were not being allowed to come in and work.You jumped to a conclusion way beyond what was there. You can *what if* all day it doesn't make it true or happen.


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## james4beach (Nov 15, 2012)

yyz, Canadian banks hitting hard times is not a "what if" question. It actually happened not too long ago.


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## mark0f0 (Oct 1, 2016)

Canadian bank solvency basically relies heavily upon the CMHC making good on their promise to repay defaulted mortgages under their subprime mortgage insurance program at 100 cents on the dollar in a timely fashion.

The 'problem' is that the CMHC has a little over $20B of capital to back a portfolio of guarantees north of $900B. In a housing downturn, this capital would quickly be burned.

How willing will the government, under Trudeau or his successor, be to vote to write cheques to the CMHC and the banks, to make good on the CMHC's obligations over and above CMHC's capital on hand? Especially when house prices are collapsing and unemployment is very high? 

Just the perception of such coming into question could create a large amount of turbulence in Canadian bank stocks. They could lose 5-10% in a single day if a higher ranking government member opens his/her mouth and suggests that there might be some changes to CMHC policy in this area (much like they dropped significantly when Paul Martin banned bank mergers in the late 1990s!). Even though the CMHC making good on its legal obligations to the banks is not a 'bail-out', the usual NDP-types will certainly view it that way. And history tells us that as economic times toughen, the leftish NDP types tend to gain influence and power, and may be able to enact policy or even limit those payments. That scenario, of course, being devastating to the banks.


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## yyz (Aug 11, 2013)

james4beach said:


> yyz, Canadian banks hitting hard times is not a "what if" question. It actually happened not too long ago.


So again I'll ask why are you invested in them if you are that fearful? You tried shorting but that didn't work.So you obviously bought them but now you're scared they will "potentially" collapse or something.So by your logic you should sell them.You are convinced the past will repeat and I am saying that is not a 100% certainty.So again play what if , could happen scenarios all day it doesn't necessarily mean anything. You can't plan your life around what if's otherwise you would never cross the road.


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## NorthernRaven (Aug 4, 2010)

mark0f0 said:


> The 'problem' is that the CMHC has a little over $20B of capital to back a portfolio of guarantees north of $900B. In a housing downturn, this capital would quickly be burned.
> 
> How willing will the government, under Trudeau or his successor, be to vote to write cheques to the CMHC and the banks, to make good on the CMHC's obligations over and above CMHC's capital on hand? Especially when house prices are collapsing and unemployment is very high?
> 
> Just the perception of such coming into question could create a large amount of turbulence in Canadian bank stocks. They could lose 5-10% in a single day if a higher ranking government member opens his/her mouth and suggests that there might be some changes to CMHC policy in this area (much like they dropped significantly when Paul Martin banned bank mergers in the late 1990s!). Even though the CMHC making good on its legal obligations to the banks is not a 'bail-out', the usual NDP-types will certainly view it that way. And history tells us that as economic times toughen, the leftish NDP types tend to gain influence and power, and may be able to enact policy or even limit those payments. That scenario, of course, being devastating to the banks.


I really wish people would try and do at least ballpark order of magnitude numbers before doing the handwaving and "anything can happen" dances. For CMHC, their most recent stress tests include scenarios such as "US-style housing correction (5% rise in unemployment, and 30% drop in house prices)", "Global Deflation", or "Oil Price Shock (oil drops to $20/barrel, and remains under $30 for another 4 years". None of these nasty scenarios take CMHC's capital to anything worse than 183% of their (stricter 2017) Minimum Capital Test. It isn't at all obvious that there would be a need to "write cheques to the CMHC" short of an absolute Canadian asteroid meltdown?

For that $900 billion in portfolio and individual coverage that CMHC is guaranteeing, don't forget that homeowner equity takes the first hit, and the Genworth guarantee is for 90%, so CMHC's capital can cover a much larger amount of total losses - much of that won't reach CMHC. CMHC's numbers seem to indicate recent averages of 30-40% equity in their portfolio, which seems very high considering the 5% starter down-payment, but I guess there's a lot of securitization coverage as well as the compulsory insurance at < 20% or whatever, or I may be misreading what that represents.

Finally, I suspect the ability of the federal government (whether composed of "NDP-types" or not) to walk away from Crown obligations like CMHC guarantees is close to zero. If nothing else, all the best lawyer-sharks would tend to be non-NDP types and hired by the other side...


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## Oldroe (Sep 18, 2009)

Some people are just bad investor.


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## mark0f0 (Oct 1, 2016)

NorthernRaven said:


> I really wish people would try and do at least ballpark order of magnitude numbers before doing the handwaving and "anything can happen" dances. For CMHC, their most recent stress tests include scenarios such as "US-style housing correction (5% rise in unemployment, and 30% drop in house prices)", "Global Deflation", or "Oil Price Shock (oil drops to $20/barrel, and remains under $30 for another 4 years". None of these nasty scenarios take CMHC's capital to anything worse than 183% of their (stricter 2017) Minimum Capital Test. It isn't at all obvious that there would be a need to "write cheques to the CMHC" short of an absolute Canadian asteroid meltdown?


Well of course the CMHC is going to try and present themselves in the best light possible. And prior to the US collapse, you had Ben Bernanke, all of Fannie/Freddie's people, etc., saying that insolvency and collapse was impossible. From price levels not even as stretched as Canada's. Just how did they make out? 

Its just common sense that a subprime mortgage guarantor 45X leveraged into guarantees is going to hit an event, at some point in the cycle, where they're insolvent. The question, for Canada's banks, is what will the federal government do when this happens. Will they pony up the funds? What's the appetite to add another $100-$300B to Canada's national debt in an environment of negative public perception for the banks? 




> For that $900 billion in portfolio and individual coverage that CMHC is guaranteeing, don't forget that homeowner equity takes the first hit, and the Genworth guarantee is for 90%, so CMHC's capital can cover a much larger amount of total losses - much of that won't reach CMHC. CMHC's numbers seem to indicate recent averages of 30-40% equity in their portfolio, which seems very high considering the 5% starter down-payment, but I guess there's a lot of securitization coverage as well as the compulsory insurance at < 20% or whatever, or I may be misreading what that represents.


The 3rd parties are only $300-$400B out of the $900B+ total, and 90% isn't much if prices fall 50-60% back to long-term normals. And its rather silly to think that CMHC has no risk, especially with the sort of price elevation out there and the guarantees written against such elevated prices. Remember Murphy's Law as well. The sort of leverage CMHC runs is an accident waiting to happen, and at some level, CMHC *is* the market, so the fall in Canadian housing will likely be correlated and systemic.



> Finally, I suspect the ability of the federal government (whether composed of "NDP-types" or not) to walk away from Crown obligations like CMHC guarantees is close to zero. If nothing else, all the best lawyer-sharks would tend to be non-NDP types and hired by the other side...


The government certainly can legislate changes to the T&C of existing CMHC insurance. Or enact special taxes on banks that receive CMHC insurance proceeds. Just the mere threat of such will create turbulence in the bank stocks, even if it is ultimately unjustified.


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## james4beach (Nov 15, 2012)

yyz said:


> So again I'll ask why are you invested in them if you are that fearful?


You must have trouble reading and comprehending my posts. I am not very fearful of them. I'm just saying there are risks to be aware of. Do you know what 'risk' means?

I also drive a car, and am cautious because I know I can get hurt in a car accident.

I eat red meat, and am aware of the potential adverse health effects.

I own shares in banks, and am aware that equity might get wiped out during a banking crisis.



> You tried shorting but that didn't work.


I short various things for technical trades, but don't do it too often. The RY short didn't work. The XEG short did.

I did not short RY because I thought they were going to collapse. I shorted them because I thought the price might go down, and then I covered when I decided that it was the wrong technical move.

yyz: you and oldroe both sound like you own lots and lots of bank shares.


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## NorthernRaven (Aug 4, 2010)

mark0f0 said:


> Well of course the CMHC is going to try and present themselves in the best light possible. And prior to the US collapse, you had Ben Bernanke, all of Fannie/Freddie's people, etc., saying that insolvency and collapse was impossible. From price levels not even as stretched as Canada's. Just how did they make out?


One has to understand the "toxic" part of the US situation. So whatever overpricing and appalling underwriting on the mortgages existed, there was the whole extra problem of them being engineered into bogus AAA-rated derivatives and synthetics and other sludge. I don't think there's any indication that in Canada it wouldn't "just" be piles of mortgages with underlying price drops, and the securities based on them aren't anything near the toxic league.
Also, you can't just dismiss CMHC's stress testing - it may have flaws, or be missing things, but there's going to been a lot of work and review put into them. It would be interesting to see if there are details available.



mark0f0 said:


> Its just common sense that a subprime mortgage guarantor 45X leveraged into guarantees is going to hit an event, at some point in the cycle, where they're insolvent. The question, for Canada's banks, is what will the federal government do when this happens. Will they pony up the funds? What's the appetite to add another $100-$300B to Canada's national debt in an environment of negative public perception for the banks?


Well, by definition CMHC guarantees aren't "subprime". And again, unless you take into account the actual loss experience CMHC would have in any particular scenario, that "45X leveraged" number isn't very helpful, since they aren't taking the first-dollar losses on that entire portfolio.



mark0f0 said:


> The 3rd parties are only $300-$400B out of the $900B+ total, and 90% isn't much if prices fall 50-60% back to long-term normals. And its rather silly to think that CMHC has no risk, especially with the sort of price elevation out there and the guarantees written against such elevated prices. Remember Murphy's Law as well. The sort of leverage CMHC runs is an accident waiting to happen, and at some level, CMHC *is* the market, so the fall in Canadian housing will likely be correlated and systemic.


50-60% national drop would seem fairly ridiculous. I found CBC coverage of a Moody's report that had a 60% over "long term trend" for Vancouver single-detached, but even Toronto was only +30% on that measure. Those are two very big markets, but although I couldn't find it, the national number would still be rather less. There's also nothing magic or "natural" about the long-term trend - if prices have been this high this long, there's probably actual demand forces that would have bent the trend up anyway, even if there is a large bubble on top of that.
In the US, I believe that while there were a few specific cities that flirted with that 50%+ drop at the worst, the national Case-Shiller index didn't drop much below 30% peak to trough.



mark0f0 said:


> The government certainly can legislate changes to the T&C of existing CMHC insurance. Or enact special taxes on banks that receive CMHC insurance proceeds. Just the mere threat of such will create turbulence in the bank stocks, even if it is ultimately unjustified.


I doubt the first very much. Here's wording I found from one of the CMHC mortgage bonds:


CHMC Bond said:


> The CMHC Guarantee constitutes a direct unconditional obligation of the Guarantor and as such carries the full faith and credit of Canada and constitutes a direct unconditional obligation of Canada. Amounts payable under the CMHC Guarantee of the principal of and interest on the Bonds constitute a charge on and are payable out of the Consolidated Revenue Fund of Canada.


I'd be fairly comfortable assuming that the government would have about as much luck in ducking these guarantees as they would in trying to default on Canada Savings Bonds.


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## Oldroe (Sep 18, 2009)

Should we go back a year when you missed the whole recovery because !


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## james4beach (Nov 15, 2012)

NorthernRaven -- another advantage the Canadian banks have vs US banks of '07 is that they have been operating under the new Basel III regime, which has some stricter definitions of bank capital (tangible common equity and the Common Equity Tier 1 capital).

Global banking capital standards have been improved a bit since the 2008 financial crisis. US and European banks had some pretty flaky instruments that they were counting towards capital. When looking at their tangible common equity, back in '07, we saw leverage ratios of something like 40:1 in the US. Deutsche Bank, the last time I measured it carefully, was 45:1.

The Canadian banks in comparison currently have 27:1 leverage based on similar measures of tangible common equity. This is still extraordinarily high, but it's less than what US banks were at going into their crisis.

So looking purely at the capital situation, Canadian banks are better capitalized than US banks were in 2007. However one thing I don't have a good read on is the derivatives situation. Have derivative exposures been cleaned up since 2007 ? Do banks have less risky derivative positions now than in the past? This is where much of the losses happened -- off balance sheet.


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## mark0f0 (Oct 1, 2016)

NorthernRaven said:


> Well, by definition CMHC guarantees aren't "subprime". And again, unless you take into account the actual loss experience CMHC would have in any particular scenario, that "45X leveraged" number isn't very helpful, since they aren't taking the first-dollar losses on that entire portfolio.


Actually CMHC's guaranteees are 'subprime' by definition. Prime borrowers simply don't need CMHC subprime mortgage insurance. And as we saw in the USA, looking backwards doesn't work so well when the housing market is elevated beyond any previous records set in price. 

Without turning this thread into a giant CMHC debate, I'll just suggest that if there's any question of confidence in CMHC paying in full on its guarantees, the market impact on Canadian banks will be profound.



> 50-60% national drop would seem fairly ridiculous.


Not at all. The average Canadian house price is what, $400k? $150-$180k doesn't seem unreasonable as a terminal average price on the downside. And CMHC tends to be heavily concentrated in the more overvalued locales, so the actual declines experienced by houses under CMHC subprime mortgage insurance are likely to be greater than average.


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## NorthernRaven (Aug 4, 2010)

mark0f0 said:


> Actually CMHC's guaranteees are 'subprime' by definition. Prime borrowers simply don't need CMHC subprime mortgage insurance. And as we saw in the USA, looking backwards doesn't work so well when the housing market is elevated beyond any previous records set in price.


You are confusing "subprime" with "high loan-to-value (LTV)" or "small downpayment". You can be a "prime" customer in terms of income, credit score, expenses ratio etc, but not have the 20% minimum down payment, in which case you'll need the CMHC guarantee. CMHC still requires those "prime" underwriting criteria on credit score, debt ratios, etc. If you don't meet them, that's when you'll have to to go with an alt lender (including subprime), as the major banks don't do much non-eligible lending even at <80% LTV, I think?



mark0f0 said:


> Without turning this thread into a giant CMHC debate, I'll just suggest that if there's any question of confidence in CMHC paying in full on its guarantees, the market impact on Canadian banks will be profound.


And as I mentioned, CMHC guarantees are Government of Canada "full faith and credit" obligations and would constitute national default if not paid. That certainly would have a "profound" impact all right, but of course there is *no* question of that, except perhaps the tinfoil hat crowd... 



mark0f0 said:


> Not at all. The average Canadian house price is what, $400k? $150-$180k doesn't seem unreasonable as a terminal average price on the downside. And CMHC tends to be heavily concentrated in the more overvalued locales, so the actual declines experienced by houses under CMHC subprime mortgage insurance are likely to be greater than average.


These are actual houses, bought by actual people. Short of the return of mass breadlines, it is hard to see how you take that much money and demand out of the entire national market to bring it down 50-60%, whatever might happen in one or two markets. As mentioned, the US went down about 30% nationally, and even if Canadian price levels are higher compared to some sort of fundamentals, there was much more rot inside the US system.


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## twa2w (Mar 5, 2016)

Sub prime mortgages are primarily defined by the quality of the borrowers covenant, not the loan to value. Having said that, borrowers with only 5-10% down are often younger with less job tenure than folks with >20 % down. Regardless of down payment or equity, they all are required to meet the same requiements for debt servicing and employment.
So strictly speaking, all CMHC insured mortgages are prime - and certainly compared the what is defined as subprime in the USA. The other thing to note is a pretty hefty percentage of CMHC mortgages are low loan to value mortgages as banks bulk insure a good portin of conventional low ratio mortgages in order to package them into mortgage backed securities or to sell them to pensions funds and endowments etc. Also older hi ratio mortgages get paid down to lower loan to value over time.

I do agree with mark0f0 that since the bulk of populaton is in the major cities, this is where most of CMHC mortgages are. My guess greater than 80%. Given the number of houses and values of houses in the GTA & Vancouver, Victoria one could speculate that close to 40% of CMHC's risk is in those markets.
But that is just a WAG on my part.


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## Eder (Feb 16, 2011)

Average household income in Calgary is about 98k therefore average 3 bedroom stucco job should go for about 300k...so -30-35% is well within the realm of possibilities.


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## yyz (Aug 11, 2013)

james4beach said:


> You must have trouble reading and comprehending my posts. I am not very fearful of them. I'm just saying there are risks to be aware of. Do you know what 'risk' means?
> 
> I also drive a car, and am cautious because I know I can get hurt in a car accident.
> 
> ...


Sorry only about 5% in financials probably underweight. I must admit I don't have trouble reading your posts and yes I understand what risk is thanks.
If you don't think you're fearful then you are constantly looking for the crisis coming. 
People spying on you,stealing your cell phone conversations etc .Your personal posts are full of harrowing experiences you have had and concerns about this that and everything else. Armed radicals when you took a wrong turn,people checking out doors in your apartment building. Sounds like a movie.


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## mark0f0 (Oct 1, 2016)

NorthernRaven said:


> You are confusing "subprime" with "high loan-to-value (LTV)" or "small downpayment". You can be a "prime" customer in terms of income, credit score, expenses ratio etc, but not have the 20% minimum down payment, in which case you'll need the CMHC guarantee. CMHC still requires those "prime" underwriting criteria on credit score, debt ratios, etc. If you don't meet them, that's when you'll have to to go with an alt lender (including subprime), as the major banks don't do much non-eligible lending even at <80% LTV, I think?


If you don't bring at least 20% down to the table, the loan is not prime. Hence it is subprime. Mortgages are secured lending, so the prime versus subprime delineation is in the behavior of the lender in deciding whether to accept the loan as-is, or to require an enhancement to its quality, such as CMHC subprime mortgage insurance, to render the loan eligible for investment. The Bank Act codifies the 20% minimum standard as a regulatory safeguard for the banks. Hence, CMHC is a subprime mortgage insurer in every sense of the definition.




> And as I mentioned, CMHC guarantees are Government of Canada "full faith and credit" obligations and would constitute national default if not paid. That certainly would have a "profound" impact all right, but of course there is *no* question of that, except perhaps the tinfoil hat crowd...


Yet there have been rumblings of the government imposing some sort of 'deductible'. And if the bankers are perceived to be overly rich while Canadians are losing much of their net worth, it creates a very interesting political situation where politicians have to choose between maintaining full solvency of the 'rich' banks, versus tacking on many billions of new government debt. 

Again, my point is, just the mere discussion of this stuff, options ultimately available to the Government, could induce wild swings in the banks' equity valuations and even cost of capital. At some point, the CMHC guarantees will have to be brought to a resolution and abnormally high house prices revert to more historical norms including a likelihood of overshoot to the downside. 



> These are actual houses, bought by actual people. Short of the return of mass breadlines, it is hard to see how you take that much money and demand out of the entire national market to bring it down 50-60%, whatever might happen in one or two markets.


Down by 50-60% only brings housing back to historical normal of being priced at 2-3X median annual household income. Its not extreme by any means. The Canadian housing bubble is *really* that large. 



> As mentioned, the US went down about 30% nationally, and even if Canadian price levels are higher compared to some sort of fundamentals, there was much more rot inside the US system.


There's a lot of rot in the Canadian system, and almost nobody in Canada finances with long-term mortgages. Unlike the USA where a good chunk of properties were financed long-term. Subprime was never quite as pervasive in the USA as it is today in Canada either.


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## mark0f0 (Oct 1, 2016)

Eder said:


> Average household income in Calgary is about 98k therefore average 3 bedroom stucco job should go for about 300k...so -30-35% is well within the realm of possibilities.


Easily, and Calgary's been stagnant/dropping since their local peak in 2011. Its far, far worse in other cities, particularly Toronto/Vancouver/Winnipeg/Saskatoon/Regina. Toronto/Vancouver could easily be black holes for billions worth of CMHC subprime mortgage insurance claims as prices fall.

45X leverage at the CMHC, what a joke it is that there's actually people out there who think such won't blow up at some point considering the sort of subprime mortgages they insure. Which means that bank shareholders should consider the scenarios surrounding such, and plan accordingly.


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## lonewolf :) (Sep 13, 2016)

The sooner the banks fail the better. We need the economy in a depression now before it is to late. A depression will change the mass mind set from inclusion to exclusion. We been @ war with Islam for 1400 years & the bubble has pushed the thinking to such a degree of inclusion we are inviting the enemy into our country oblivious to reason.


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## Joe Black (Aug 3, 2015)

mark0f0 said:


> If you don't bring at least 20% down to the table, the loan is not prime. Hence it is subprime. Mortgages are secured lending, so the prime versus subprime delineation is in the behavior of the lender in deciding whether to accept the loan as-is, or to require an enhancement to its quality, such as CMHC subprime mortgage insurance, to render the loan eligible for investment. The Bank Act codifies the 20% minimum standard as a regulatory safeguard for the banks. Hence, CMHC is a subprime mortgage insurer in every sense of the definition.


You are simply making up your own definition of "subprime". Do a Google search on "subprime mortgage definition" and the first result is:

_A subprime mortgage is a type of loan granted to individuals with poor credit histories (often below 600), who, as a result of their deficient credit ratings, would not be able to qualify for conventional mortgages._

The next half-dozen results are the same, they don't even mention the % of the borrower's downpayment, let alone make that part of the definition.

I can use myself as an example of why CMHC is very different from the toxic investments that occurred in the US. I had less than 20% downpayment, so I had to get their insurance. However, I had excellent credit rating and my income level was high enough that if interest rates went up I could easily handle the higher payments. In contrast, the typical subprime borrower in the US had poor credit rating and was in immediate trouble if interest rates went even slightly higher.

I find these assumptions so ridiculous that if there is downtown in house prices that suddenly ALL people with CMHC backed mortgages would just walk away. Why in the world would I do such a thing?? Let's say tomorrow my house is worth 30% less. So what? I still have the same job and have the same income, I can still afford my mortgage payments. Why would I throw away my own equity and ruin my credit rating, when I can just stick it out?

Your argument relies on the assumption that a large number of people with CMHC backed mortgages would suddenly be in financial trouble during a temporary downtown in the housing market. What numbers do you have that back this up?


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## lonewolf :) (Sep 13, 2016)

Joe Black said:


> You are simply making up your own definition of "subprime". Do a Google search on "subprime mortgage definition" and the first result is:
> 
> _A subprime mortgage is a type of loan granted to individuals with poor credit histories (often below 600), who, as a result of their deficient credit ratings, would not be able to qualify for conventional mortgages._
> 
> ...


 If @ least 20% is not put down on the mortgage it is a high risk mortgage for the holders of IOUs from the bank in my opinion.


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## Just a Guy (Mar 27, 2012)

One of the reasons the USA only experienced a 30% drop was interest rates were still low, allowing those with money to scoop up "bargains". Combine an increase in interest rates into this formula and then see what happens to housing prices.

People won't be able to afford the houses, adding fuel to the fire. That's what will drive the 40-60% correction that the math says it'll take to bring things back to "normal".


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## mark0f0 (Oct 1, 2016)

Joe Black said:


> You are simply making up your own definition of "subprime". Do a Google search on "subprime mortgage definition" and the first result is:
> _A subprime mortgage is a type of loan granted to individuals with poor credit histories (often below 600), who, as a result of their deficient credit ratings, would not be able to qualify for conventional mortgages._


Irrelevant. Mortgage lending is done based on the value of the collateral and the equity involved. The credit rating of the borrower is irrelevant in the discussion.



> So what? I still have the same job and have the same income, I can still afford my mortgage payments. Why would I throw away my own equity and ruin my credit rating, when I can just stick it out?


Well if your house dropped 50-60%, as is likely to happen in Canada, a lot of jobs in the construction/housing supply sector will disappear. So a good chunk of those buyers over the past decade will have lost their jobs or otherwise had their income seriously impaired.

Additionally, risk premia will explode as mortgages go underwater. So the borrower will face a much higher cost of finance owing to the increased risk of the loan when negative equity exists. Banks may also accelerate the payment schedules and not offer long amortizations on renewals, especially if assets are "on sale" and ripe for the picking. The banks themselves may also be facing pressures in financing their own portfolios, as a significant source of funding for the banks is housing sellers depositing their housing sale proceeds into the banks. Talk to almost every elderly house seller, and they'll tell you that the proceeds of their housing sale went into GICs or similar, which metaphorically gets recycled back into funding the buyer's mortgage (as bank assets = liabilities!).

So it all adds up to a lot of defaults, and lots of claims on the CMHC. Easily enough to burn through their paltry capital buffer inherent in being leveraged 45X into subprime guarantees. This is why we need to consider such a scenario seriously -- the leverage is just that high that there is little room for 'error'. Leverage is also extreme on the balance sheets of the borrowers themselves.

I might add, if you couldn't come up with a 20% downpayment, you definitely were not a prime borrower, as your loan simply wasn't good enough to go onto the bank's balance sheet without enhancement (ie: the CMHC subprime mortgage insurance!). Having a decent downpayment is de facto proof of the ability to save and manage one's money prudently. Credit scores are subject to manipulation. Equity (LTV) is basically the *only* thing that matters for secured lending such as mortgage-backed lending.


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## mark0f0 (Oct 1, 2016)

twa2w said:


> Sub prime mortgages are primarily defined by the quality of the borrowers covenant, not the loan to value.


No, LTV is the key determinant of whether a mortgage is prime or not. The Canadian industry likes to avoid the term 'subprime' because it is perjorative and conjures up comparisons to the USA, but it is a very accurate way of describing loans with high LTV. They certainly aren't prime loans, that's for sure. The banks won't use their own balance sheet resources to invest in these loans without CMHC subprime insurance. 



> Having said that, borrowers with only 5-10% down are often younger with less job tenure than folks with >20 % down. Regardless of down payment or equity, they all are required to meet the same requiements for debt servicing and employment.


Employment and debt servicing ability comes and goes. Equity is all that matters to a banker doing the lending.



> So strictly speaking, all CMHC insured mortgages are prime - and certainly compared the what is defined as subprime in the USA.


Not at all. All CMHC insured mortgages are subprime. The only reason a bank would require its customers to pay for CMHC insurance is that the bank considers the loan to not be of "Prime" quality. Even Fannie Mae wasn't so reckless to insure subprime loans >80% LTV in the USA, so government involvement is even worse than experienced in the USA.

Also, the CMHC, at $900B, is dramatically larger than Fannie/Freddie combined (~$5T worth of guarantees at the combined entities at the 2006 peak of the market!) if you use the traditional 1:10 ratio between Canada and the USA's population and GDP. So statistically the situation is likely dramatically worse in Canada than experienced in the USA at the peak.



> The other thing to note is a pretty hefty percentage of CMHC mortgages are low loan to value mortgages as banks bulk insure a good portin of conventional low ratio mortgages in order to package them into mortgage backed securities or to sell them to pensions funds and endowments etc. Also older hi ratio mortgages get paid down to lower loan to value over time.


Banks can package anything they want into MBS without the CMHC's involvement. The CMHC subprime insurance is bought because otherwise the loans could not be held, sold, etc., by themselves or by others at such relatively low interest rates. 



> I do agree with mark0f0 that since the bulk of populaton is in the major cities, this is where most of CMHC mortgages are. My guess greater than 80%. Given the number of houses and values of houses in the GTA & Vancouver, Victoria one could speculate that close to 40% of CMHC's risk is in those markets.
> But that is just a WAG on my part.


Yup. CMHC is also subject to adverse selection, where the banks will analyze the quality of mortgages and borrowers, and require that the statistically worst quality loans be insured, so as to create the best bang for the buck when it comes to buying the 'insurance'. Of course the "worst quality" loans probably will, over the long term cycle, perform considerably worse than loans held uninsured on the bank's balance sheets. 

IMHO, it takes a lot of hubris to believe that the CMHC won't run into problems given just how dramatically overvalued the Canadian housing market is, and how heavily the CMHC participates in the financing marketplace. It is the reaction of the government that could very well be highly problematic for the future of Canadian banks. Complacency, complacency indeed!


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## Joe Black (Aug 3, 2015)

lonewolf :) said:


> If @ least 20% is not put down on the mortgage it is a high risk mortgage for the holders of IOUs from the bank in my opinion.


Whether that is true or not does not change the definition of "subprime".

In my opinion, a true "subprime" mortgage is much higher risk than a mortgage to a borrower with excellent credit history. In any case, my point is that a CMHC backed mortgage is *not* the equivalent of the junk NINJA mortgages prevalent in the States in 2008.


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## lonewolf :) (Sep 13, 2016)

JB you could be right about that. How much down is needed by CMHC. The problem banks often over estimate value of property to make the loan if buyer buys for less then the bank has property appraised for it is often viewed the difference as having more money down.


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## Joe Black (Aug 3, 2015)

mark0f0 said:


> Having a decent downpayment is de facto proof of the ability to save and manage one's money prudently.


Err, no, one's history in making payments on time and steady high income employment are just as good "de facto" proof if not more so. You really think that someone with a chronic history of late/skipped payments and unsteady employment but can make a 20% downpayment is less risky than someone who in the last 20 years has not missed a payment and had steady income but only puts down 10 or 15% ?

I could have waited and saved another year or two to have the 20%, but I'm better off now 5 years later than I would have been if I followed your advice. The money I spent on the CMHC insurance was almost certainly less than the extra I would have paid for my house if I had waited. I don't see how paying more overall would have been the "prudent" financial decision.

I'm debt free outside of my mortgage (which is about 75% paid off by now). The LTV is far from the only thing that matters.


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## james4beach (Nov 15, 2012)

yyz said:


> If you don't think you're fearful then you are constantly looking for the crisis coming.


No, I don't think I'm fearful. I think I strive to be informed about all angles of my investments.

I'm not waiting for a crisis nor do I think one is around the corner.

But getting lazy and complacent is a dangerous thing. When the market is at all time highs, like it is right now, is when you should be critical and fight against the tendency to just say "everything is well, and it always will be".


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## Oldroe (Sep 18, 2009)

The banks are making nothing on this housing bubble. You don't need to take any highly leveraged offers, a great number of deals are cash.


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## Just a Guy (Mar 27, 2012)

I can't believe someone just posted that..,I guess the record levels of Canadian debt is just more fake news...the banks are making record profits by their own admission.


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## Oldroe (Sep 18, 2009)

Because I'm in the middle of 2 real estate deals I've been networking. I know 20 sales in last 6 months cash. No 5,10,20 down will buy around GTA east.


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## Benting (Dec 21, 2016)

Can't believe so many passionate members here to discuss this. Especially the OP, who has a regular job I suppose, and spend so much time trying to convince others to what his believe ? Do you need to worry about your own job ? To me, what OP's original message is kind of like speculation. Almost everybody knows that. "Market is going to crash, housing bubble is going to burst." This has been around for many years, time and time again and again. Yet the OP voices his opinion every chance he got here in these forum. It is almost like 'crying wolf" don't you think ? You look at your own investment to see if you can tolerate the risk. If not, then just put your money under the mattress and a enjoy your life. *Life is short, enjoy it while you can. *


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## Just a Guy (Mar 27, 2012)

Oldroe said:


> Because I'm in the middle of 2 real estate deals I've been networking. I know 20 sales in last 6 months cash. No 5,10,20 down will buy around GTA east.


I did 4 deals last year, 5 the year before, and am just closing on one this year...all technically "cash" deals. Of course, I went to the bank afterwards for financing, getting an 80% LTV mortgage and getting all my money back out because they appraised higher than I paid. 

The "cash" purchase can be meaningless, and 20 sales is probably less than a day of transactions, far from being statistically relevant.


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## james4beach (Nov 15, 2012)

Benting said:


> To me, what OP's original message is kind of like speculation. Almost everybody knows that. "Market is going to crash, housing bubble is going to burst."


That isn't what I said. I did not say the housing bubble is going to burst. I did not say that banks will do poorly.

I started my message by saying "I think it's good to be critical of the Canadian banks" and said this is about having context and understanding your investments.



> Life is short, enjoy it while you can.


All professional money managers try to carefully balance risks and returns. If you're not aware of both risks and returns, you are making poor decisions. Plugging your ears any time someone raises a critique is not going to help you get rich.


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## Eder (Feb 16, 2011)

I think what is being said j4b is that if you walk your talk its doubtful you are making any money .


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## james4beach (Nov 15, 2012)

Eder, do you do any research to learn and stay up to date with the positive & negatives of your investments?


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## Eder (Feb 16, 2011)

“Twenty years in this business convinces me that any normal person using the customary three percent of the brain can pick stocks just as well, if not better, than the average Wall Street expert.”

guess who said that?


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## RCB (Jan 11, 2014)

mark0f0 said:


> No, LTV is the key determinant of whether a mortgage is prime or not.
> ........
> All CMHC insured mortgages are subprime.


What a load of BS. Your own first comment above cannot be true if your second comment is true. The LTV of any property changes, with each principal payment, with each increase or decrease in the RE market for that property, with improvements, or damage, etc.

I have two CMHC-insured mortgages, and two mortgages without insurance. By your reasoning, because two are CMHC-insured, two are sub-prime mortgages. Your statement ignores the fact that all but $8,000 has been paid on one mortgage, while value has more than doubled (non-bubble region) since the mortgage was obtained and insured. You say this mortgage is subprime. 

You also stated that anyone who purchases with a CMHC-insured mortgage shows they can't save a 20% downpayment, also a crock. My second CMHC-insured mortgage had only a 5% downpayment because my cash was going into a year-long gutting and renovation of the lakefront property. That cash and year's worth of effort just doubled the value of the property, with the LTV now less than 50% just 18 months after obtaining said (so-called) sub-prime mortgage. Same non-bubble region.

Your statements regarding CMHC mortgages as sub-prime are laughable.


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## mark0f0 (Oct 1, 2016)

RCB said:


> What a load of BS. Your own first comment above cannot be true if your second comment is true. The LTV of any property changes, with each principal payment, with each increase or decrease in the RE market for that property, with improvements, or damage, etc.


Usually when we talk about prime or subprime, its referred to at the time of loan origination. 



> I have two CMHC-insured mortgages, and two mortgages without insurance. By your reasoning, because two are CMHC-insured, two are sub-prime mortgages.


At the time the CMHC insurance was bought, the loans were not considered to be prime. Hence, were subprime. The only possible exception could be if you bought the CMHC subprime insurance in order to make the loan eligible for investment by your RRSP trustee on your behalf. But this makes up such a tiny proportion of CMHC subprime insurance that its a triviality to even discuss such.



> Your statement ignores the fact that all but $8,000 has been paid on one mortgage, while value has more than doubled (non-bubble region) since the mortgage was obtained and insured. You say this mortgage is subprime.


At the time of origination, yes, it definitely was not a prime loan. Otherwise, there would have been no reason to buy the insurance.



> You also stated that anyone who purchases with a CMHC-insured mortgage shows they can't save a 20% downpayment, also a crock.


That's the most common case. Cases like yours are rare, and if you're not willing to commit significant resources to a downpayment, is the loan really "prime"? Not really. You were forced to buy the subprime mortgage insurance for a reason. 




> My second CMHC-insured mortgage had only a 5% downpayment because my cash was going into a year-long gutting and renovation of the lakefront property. That cash and year's worth of effort just doubled the value of the property, with the LTV now less than 50% just 18 months after obtaining said (so-called) sub-prime mortgage. Same non-bubble region.


Housing flipper, didn't want to, or didn't have money to put down a 20% downpayment automatically means subprime in Canada. The (federally regulated) banks are not allowed to make loans on a prime basis to people who bring less than 20% down to the table. 



> Your statements regarding CMHC mortgages as sub-prime are laughable.


No, your belief that you didn't have a subprime loan is laughable. I think people read way, way too much into the whole "subprime" thing. It describes the loan's quality, which heavily hinges on LTV at the time of origination.


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## RCB (Jan 11, 2014)

Actually, I'm not a house flipper. We purchased a lakefront property to retire to, and have taken the last year to gut and renovate, while living in the home we purchased 14 years ago. 

Ah, so now CMHC-insured mortgages are only sub-prime at the time of origination? At what point do you magically stop calling them sub-prime?


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## mark0f0 (Oct 1, 2016)

RCB said:


> Actually, I'm not a house flipper. We purchased a lakefront property to retire to, and have taken the last year to gut and renovate, while living in the home we purchased 14 years ago.
> 
> Ah, so now CMHC-insured mortgages are only sub-prime at the time of origination? At what point do you magically stop calling them sub-prime?


When the CMHC is no longer involved and no longer has any obligation under subprime mortgage insurance.


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## twa2w (Mar 5, 2016)

More than 1/2 of cmhc insured mortgages have 20% or greater equity at origination. Are they sub prime too?
There is a formal definition of prime mortgages and it isn't yours.


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## hboy54 (Sep 16, 2016)

Eder said:


> “Twenty years in this business convinces me that any normal person using the customary three percent of the brain can pick stocks just as well, if not better, than the average Wall Street expert.”
> 
> guess who said that?


Oh, oh, pick me, pick me! James?


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## kcowan (Jul 1, 2010)

ISTR that the Canadian banks actually sold some of their prime mortgage portfolios to CMHC during the liquidity crisis. The rest of this discussion seems to revolve around semantics.


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## james4beach (Nov 15, 2012)

There are risks to investing in banks and it's why I limit my exposure to them. That's all I said in my first post. The rest were direct quotes from the article I linked to. I am also saying it's good to be critical of hot sectors and your investments in general.

Many of you seem very upset about what I'm saying here. Can you pinpoint for me, which part of my statement upsets you? Is it the part where I say you should be critical of the banks? In your opinion, are banks so great in every way that they are _beyond critique_?


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## Woz (Sep 5, 2013)

twa2w said:


> More than 1/2 of cmhc insured mortgages have 20% or greater equity at origination. Are they sub prime too?
> There is a formal definition of prime mortgages and it isn't yours.


Currently, I'd say there's more of a formal definition about prime/subprime, and that it's primarily determined by credit score. However, the definition was fairly murky 5 years ago. You can see that in this short article from the St. Louis Federal Reserve from 2007 discussing the various definitions of subprime.

https://files.stlouisfed.org/research/publications/es/07/ES0713.pdf

Sometimes it depended on the lender, other times the borrowers ability to repay, and other times the credit score and loan to value. One of the definitions there had anything with <10% down payment as subprime and anything with 10-20% down payment as near prime which would obviously classify many CMHC mortgages as near-prime/subprime.


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## Joe Black (Aug 3, 2015)

mark0f0 said:


> When the CMHC is no longer involved and no longer has any obligation *under subprime mortgage insurance*.


Your original argument was that all CMHC backed mortgages are "subprime". Now you are saying only those that fall under the traditional definition of "subprime" are "subprime"? That is the reverse of your original argument.

CMHC insurance lasts the entire length of the mortgage, down to the very last payment it still has an obligation to cover the lender.


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## mark0f0 (Oct 1, 2016)

twa2w said:


> More than 1/2 of cmhc insured mortgages have 20% or greater equity at origination. Are they sub prime too?
> There is a formal definition of prime mortgages and it isn't yours.


Subprime is in the eye of the beholder. ie: the investor in the mortgage-backed obligation, which happens to the banks in most cases.

If a bank is buying CMHC subprime mortgage insurance against a loan with <80% LTV (>20% equity) at origination, it is a reflection upon the confidence the lender has in the mortgage. Otherwise, they would not willingly open their wallet and pay the CMHC its fee.

It is abundantly obvious that the banks view the CMHC as not only an insurer against one-off events, but also against systemic risk, ie: large numbers of houses falling in price in a correlated fashion sufficiently to endanger the performance of an entire portfolio of mortgages. Or at least the market perception thereof.

This is a big risk in the banks, that the government tinkers with the guarantee itself and/or seeks to punish the banks for use of the guarantee. A guarantee that the banks have basically bet their balance sheets upon.

I offer no comment on the probability of this occurring, but with elevated leverage both in the banks, household balance sheets, and extremely elevated house prices (expressed as ratios to income, imputed rent, etc.), the probability of some sort of calamity of the sort occurring cannot be zero.


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## mark0f0 (Oct 1, 2016)

Joe Black said:


> Your original argument was that all CMHC backed mortgages are "subprime". Now you are saying only those that fall under the traditional definition of "subprime" are "subprime"? That is the reverse of your original argument.
> 
> CMHC insurance lasts the entire length of the mortgage, down to the very last payment it still has an obligation to cover the lender.


In the practical sense, most borrowers will extinguish their CMHC-insured mortgage early, in order to make use of add-on products, such as HELOCs, or even certain refinancing and/or payment extension options, that are not insurable by the CMHC. Or require the payment of a new premium.

Undoubtedly there's some pristine quality paper that's under CMHC subprime insurance. No doubt about that. But there's junk, and lots and lots of it. The banks have, statistically, a pretty good idea what the junk* is, and have made every effort to calibrate the risk models and business practices to ensure the CMHC gets 'stuck' with the paper when the cycle rolls over. 

* junk could mean, for example, loans to people in occupations that are highly cyclical or correlated to the RE price bubble. It could mean houses in areas that have experienced severely abnormal appreciation. It could even mean loans to certain identifiable groups of new Canadians that may be de facto non-recourse. The inherent business of banks is stratifying and identifying risk, and pricing that risk. I have great faith that the banks know much more about their customers and pricing the risk, than does some arbitrary flat-rate CMHC fee schedule that basically only uses LTV as its input, run by a bunch of civil servants who are part of an inherently socialist/communist organization and have little to no personal accountability for poor results.


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## Benting (Dec 21, 2016)

james4beach said:


> There are risks to investing in banks and it's why I limit my exposure to them. That's all I said in my first post. The rest were direct quotes from the article I linked to. I am also saying it's good to be critical of hot sectors and your investments in general.
> 
> Many of you seem very upset about what I'm saying here. Can you pinpoint for me, which part of my statement upsets you? Is it the part where I say you should be critical of the banks? In your opinion, are banks so great in every way that they are _beyond critique_?


I do not think people should quot link of articles in here. Just post what you think and let us discuss. There are so many of these different point of views out there. If you strongly believe something, you tend to agree with those point of views that agree with you. And, ignore those articles that against what you believe. This is true for everybody in some degree. To me, J4B, from most of the posts here I can see you have a great knowledge of investment. However, a bit of extreme opinion that against financial and dividend stocks. To do this you taking a lot of time to dig out articles that agree with your believes and posted here. To a point that you even tried to manipulate some of the data on your reply. Do you remember sometime last year, early in the morning (around 1:00 am). You replied one of the post here (which I do not remember exactly) about the past performance of different sectors. You showed a few the gain and lost in % of financial, telecom, energy and some other sectors in some period. The financial sector was one of the highest. I just happened to see your particular reply right after you posted it. Well, next day I look at this post again. What do you know, you edit the financial part out shortly after you posted the reply !!! Why ??? You did not want people to see the success of the financial sector against the other ?

To me, seasoned members here would have their own opinion. But to those new investors here, they may get influenced by you. Let's hope you put both side of the facts before you post in the future.

Have a good weekend. I think I spent way too much time in here and forget my life......


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## james4beach (Nov 15, 2012)

I know that many people here hate my critique of the banks.

Today, Moody's downgraded the credit rating of all Big Six banks:


> "Toronto-Dominion Bank, Bank of Montreal, Bank of Nova Scotia, Canadian Imperial Bank of Commerce, National Bank of Canada and Royal Bank of Canada all saw their credit ratings cut by one notch late Wednesday."


 - http://www.cbc.ca/news/business/moodys-banks-1.4109847

It appears that I am not the only one concerned about the vulnerability of the banks.


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## Eder (Feb 16, 2011)

Since you decided to short RY we are all up about 25%.


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## new dog (Jun 21, 2016)

If the housing bubble pops accompanied by a recession then we should see a very large correction in the big 6. We have been waiting a very long time for the housing bubble to burst and people have been calling for it for a very long time.


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## james4beach (Nov 15, 2012)

Eder said:


> Since you decided to short RY we are all up about 25%.


Eder I covered RY a long time ago, and had an even greater gain when I was long it.


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## james4beach (Nov 15, 2012)

I covered RY here, in August 2016
http://canadianmoneyforum.com/showt...s-Royal-Bank?p=1243314&viewfull=1#post1243314

And since September I was long RY as part of the XIU replication strategy I posted -- part of the rationale for this approach was to limit sector exposure, so I have only 20% financial sector exposure. But Eder's spotty memories of my trades isn't the main point.

The question is, what does the Moody's downgrade on the banks mean and how serious is it?


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## new dog (Jun 21, 2016)

High housing prices, debt and consumer debt all concerns in the downgrade.

http://www.cbc.ca/news/business/moodys-banks-1.4109847


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## mrPPincer (Nov 21, 2011)

james4beach said:


> I know that many people here hate my critique of the banks.
> 
> Today, Moody's downgraded the credit rating of all Big Six banks:
> - http://www.cbc.ca/news/business/moodys-banks-1.4109847
> ...


A week and a day ago I spoke to a friend at the Legion. He said he had sold most of his Canadian equity, mostly bank stocks, & oil I think, but is staying long US equity. He's always been an avid trader/investor, but he still expected to get an earful about it from his son, who's in the investment industry, when he found out. But with today's downgrades, seems he may have come pretty close to nailing the timing on this move.

Long anecdote short, no you weren't the only one with concerns about the banks.


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## mordko (Jan 23, 2016)

Nothing has changed between yesterday and today. Or a month ago and today. 

The risk is there - nobody really knows the level of impact on banks if house prices were to drop. Nor do we really know if the prices will drop or just stagnate. And if the worst scenario were to play out, surely some banks would be exposed more than others. Moody's downgrade does not inspire a lot of trust in Moody.


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## james4beach (Nov 15, 2012)

Why does this not inspire trust in Moody's? People rely on the credit rating agencies to inform them about risks before problems materialize. Here, Moody's has put out a warning before any obvious deterioration has been observed. They are saying that the banks, and the economy, are highly vulnerable to a slowdown and that high levels of debt are a risk factor.

I think this is the right kind of action. People depend on the credit rating agencies to inform them about credit risk. Not to wait until things have obviously fallen apart and then state the obvious.


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## Eder (Feb 16, 2011)

james4beach said:


> Eder I covered RY a long time ago, and had an even greater gain when I was long it.


I knew that, its just at that point in time you felt strongly banks were due to correct, and I pointed out the result of trying to time the market .


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## doctrine (Sep 30, 2011)

james4beach said:


> Why does this not inspire trust in Moody's? People rely on the credit rating agencies to inform them about risks before problems materialize. Here, Moody's has put out a warning before any obvious deterioration has been observed. They are saying that the banks, and the economy, are highly vulnerable to a slowdown and that high levels of debt are a risk factor.
> 
> I think this is the right kind of action. People depend on the credit rating agencies to inform them about credit risk. Not to wait until things have obviously fallen apart and then state the obvious.


Hey, so the last time Moody's downgraded the Canadian banks was in 2012. RY in particular was trading in the $50's. If you listened to them, you missed out on a ~100% return in 5 years. That is all you need to know about Moody's. Just check out their recommendations in 2006 and 2007 for more great ideas.


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## james4beach (Nov 15, 2012)

Eder and doctrine, what you're saying doesn't make sense. Credit ratings are not opinions on stock -- perhaps you're confusing them with stock analyst opinions. This has nothing to do with stock market timing. Nobody is suggesting you buy or sell stock based on this.

These are credit ratings, so they're ratings of credit quality and solvency. Think from the perspective of someone looking at buying a 10 year bond for RBC or TD. The ratings are about default risk. Moody's defines it as "a rank-ordering of creditworthiness, or *expected loss*" (on bonds).

See this source for an explanation of what credit ratings are:
https://www.moodys.com/sites/products/productattachments/moody's rating system.pdf

Currently TD Bank has the highest rating among the big banks, at Aa2: "high-grade investment grade".
The other banks are lower, at A1: "upper-medium grade".

All of this is somewhat splitting hairs as they are still rated in the A's. But it's still noteworthy that the big banks are only two notches away from slipping into B grades, at which point their cost of borrowing will likely go up significantly, international banks will demand more collateral from them, and all kinds of counterparties will demand higher risk premiums in deals. Their bonds might also start getting dumped from bond funds, leading to greater challenges to finance their operations.

Read what Moody's themselves released:
https://www.moodys.com/research/Moodys-downgrades-Canadian-Banks--PR_366355

This is an opinion on obligations such as deposits as well. Moody's is suggesting that deposits at TD are a wee bit safer than deposits at the other banks.


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## birdman (Feb 12, 2013)

I really don' have a good understanding on the rationale that 160% debt to earnings is necessarily bad. Mind you, because it is increasing does that make it bad or simply reflect the higher cost of real estate. If a young couple has a combined income of say $120,000. having total debt (assuming it is almost exclusively a mortgage) of 192,000. is not that much and easily serviceable. At 3% interest the mtge payment is just over $900.00 PM whereas the couple would qualify for a payment of about 3600. pm. (30% of mthly gross income). Yes, there could be some other payments but if the debt to earnings is mainly a mtge In wouldn't worry. What am I missing?


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## james4beach (Nov 15, 2012)

The news articles covered this poorly. Looking at the actual news release from Moody's,
https://www.moodys.com/research/Moodys-downgrades-Canadian-Banks--PR_366355

They write that the private-sector debt to GDP ratio and household debt have risen to new all time highs. Household balance sheets have never been tested in an economic downturn while at such high debt levels. If an economic downturn were to hit, household balance sheets and therefore bank portfolios could be very significantly affected.

Then they have some statements about individual banks, for example: "over the past four years RBC has demonstrated rapid growth in its Capital Markets business, led by growth in its US corporate loan book and the repo and securities finance business. We believe that RBC's US-focused Capital Markets growth strategy increases its exposure to risks that could more rapidly erode its creditworthiness in volatile or adverse market conditions, and is therefore negative for the credit. To date, this risk has been well managed and its performance has been very stable. Maintaining this performance through more volatile markets will be key to RBC's longer term risk management track record. We do not expect that this business will continue on this growth trajectory"

Do you see what's going on here? These are statements about vulnerability or downside possibility, IF an economic downturn occurs, or IF volatile market conditions occur.


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## james4beach (Nov 15, 2012)

frase said:


> I really don' have a good understanding on the rationale that 160% debt to earnings is necessarily bad. ...What am I missing?


If someone loses their job, interest rates, or credit conditions tighten and make it difficult to obtain new credit, then the people will be unable to pay their debts. It would affect loan impairment on bank balance sheets, for credit cards, lines of credits, and mortgages. Simultaneously, because of the burden of large debts, all consumer spending stops as people prioritize trying to service their debts with whatever little cashflow they can scrounge up.

On the bank side, this means that all the loan assets they hold start tumbling in value. The assets of the bank falls in value. Because banks are highly leveraged, those losses in asset values are amplified for the bank overall.


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## mark0f0 (Oct 1, 2016)

james4beach said:


> If someone loses their job, interest rates, or credit conditions tighten and make it difficult to obtain new credit, then the people will be unable to pay their debts.


But on the upside, those tightened credit conditions can be extremely profitable for the banks. Spreads can rise faster than what is implied through defaults and losses. Meaning that the banks can absolutely clean up in such an environment even as debt quality is being down-rated. When faced with significant debt, lots of people hunker down, don't spend anything, and work very hard to get out of it. Credit card lending, for example, despite all the write-offs, is by far, the most profitable kind of lending in the Canadian marketplace which is quite counterintuitive given that you'd think it wouldn't be much better after-write-offs than other kinds of lending. (Reference: Glacier Credit Card Trust statistics, http://s2.q4cdn.com/913390117/files...stors-Monthly-Performance-Summary-2017-03.pdf)

The experience in the 1990s, with house prices basically flat decade over decade with a significant fall in the mid 1990s, was that the banks' publicly traded equity quadrupled in value. The result of not only increased profits (due to wider spreads), but also the result of a shift in public investment enthusiasm away from RE, and towards publicly traded companies. 

RY trades at what, 11X earnings at this point? Combine some spread expansion and some P/E multiple growth, and its not too hard to see RY doubling or tripling on a total return basis for the next decade. However, it is likely that other sectors of the Canadian economy will eclipse it. My personal 'bet' would be the precious metals sector personally.


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## james4beach (Nov 15, 2012)

mark0f0 said:


> But on the upside, those tightened credit conditions can be extremely profitable for the banks.


That's not what happened in the US, England, Ireland, and Spain. Poor credit conditions caused massive losses at the banks and there was nothing remotely profitable about this.

But maybe it will be different for Canada. Maybe you're right, maybe the Canadian banks thrive during a credit boom and thrive _even more_ during a credit bust.


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## mark0f0 (Oct 1, 2016)

james4beach said:


> That's not what happened in the US, England, Ireland, and Spain. Poor credit conditions caused massive losses at the banks, that they barely survived.


The US banks did just fine as soon as the Fannie Mae/Freddie Mac issues were resolved by Congress in February or March of 2009. 2009 was basically a one-year glitch so far as the bankers' bonus pools were concerned once the Fannie/Freddie issues were resolved. A few years later they were all back to paying record bonuses to their employees and back to record profitability. In fact, better than record profitability because lots of small competitors were excised from the marketplace in the years prior and the Fed aggressively supported the financial sector with policy which is only now starting to be withdrawn.

The CMHC, unlike Freddie/Fannie, is explicitly guaranteed by the Government of Canada. So a similar issue will not exist in Canada *unless* the government tampers with the guarantee and/or refuses to recapitalize the CMHC as required to take care of defaults and the full depletion of CMHC capital resources



> But maybe it will be different for Canada


In the 1990s it certainly was. Basically the only analysis an analyst must do on the big-5 in Canada is whether or not the government will fully support the CMHC, and that of any sort of taxation policy that might be enacted (such as a windfall profits tax, or CMHC bailout tax) in response to the calamity that is likely to unfold at the CMHC.

It logically follows that analysis' of the Canadian banks' future that do not include a frank discussion of the CMHC or even reference to the CMHC are pretty much useless. 

Yes, the CMHC is *really* that important.



> Canadian banks thrive during a credit boom and thrive even more during a credit bust.


Thrive? Have you seen the charts of the Canadian banks? RY is barely above 2007/2008 levels. Total return has been quite anemic despite all the credit expansion that has taken place, and ZIRP which creates quite large margins. Spreads on consumer lending products are quite abnormally low, and the medium-large business borrowers haven't really been borrowing much. IPO's are scarce and the brokerage business is comatose. RY at least has been relatively dead money for a decade despite housing prices certainly rising at least until the 2013 apex.


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## mordko (Jan 23, 2016)

james4beach said:


> Why does this not inspire trust in Moody's? People rely on the credit rating agencies to inform them about risks before problems materialize. Here, Moody's has put out a warning before any obvious deterioration has been observed. They are saying that the banks, and the economy, are highly vulnerable to a slowdown and that high levels of debt are a risk factor.
> 
> I think this is the right kind of action. People depend on the credit rating agencies to inform them about credit risk. Not to wait until things have obviously fallen apart and then state the obvious.


Here is why it does not inspire trust in Moody:

1. In order to estimate the risk of a bank default you need to build an event tree and estimate probability and consequence of each event. For example:

- There is a credit event in China
- Chinese money stops flowing into Canadian housing
- Canadian mortgage holders default en mass
- Our Banks don't have enough reserves.

Other initiating events could be a trade war, leading to a jump in prices, followed by high inflation and high interest rates, defaults and so on.

2. So the question I am asking myself: what has changed between now and 1, 2, 3 months ago for Moody to claim the risk of a default is higher today then it was a couple of days ago. 

3. The answer: Home Capital. Well, Home Capital fills the newspapers, but has it actually increased the risk of TD defaulting? No way. The regulator acted on fraudulent lending, this will improve the quality of loans long term and actually reduce the risk of a major bank defaulting. And Home Capital itself is too insignificant to be meaningful. 

Therefore Moody's, as its name would suggest, reacts to public mood and is completely useless. I know what the newspapers are saying without Moody's ratings. Oh, and by the way, TD has a very small exposure to mortgages in Toronto and Vancouver; these days it's a US bank. So the fact they downgraded all banks equally tells me they haven't even bothered to look at the numbers.


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## dotnet_nerd (Jul 1, 2009)

mark0f0 said:


> Thrive? Have you seen the charts of the Canadian banks? RY is barely above 2007/2008 levels.


Is there some other Royal Bank I don't know about?

RY is _double _2007/2008 levels


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## mordko (Jan 23, 2016)

dotnet_nerd said:


> Is there some other Royal Bank I don't know about?
> 
> RY is _double _2007/2008 levels


Yes, but not on the other side of the looking glass.


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## mark0f0 (Oct 1, 2016)

dotnet_nerd said:


> Is there some other Royal Bank I don't know about?
> 
> RY is _double _2007/2008 levels


RY was $53 10 years ago. Today its $67. Hardly Earth-shattering gains, although throwing the dividend in has helped shareholders from feeling too poor.


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## james4beach (Nov 15, 2012)

Dividends are a red herring; you must always look at total return. RY's equity performance since 2008 has been spectacular. All the Canadian banks have been riding a bull market in real estate and consumer credit. With leverage!

If the housing market and/or credit bubble bursts, the banks will face losses and the share prices will fall.


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## mordko (Jan 23, 2016)

james4beach said:


> If the housing market and/or credit bubble bursts, the banks will face losses and the share prices will fall.


Not necessarily. This is an untested assumption. Banks' profits would shrink but do we know for a fact that Canadians would start defaulting en mass in accordance with the American 2008 scenario? The answer is "no".


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## mordko (Jan 23, 2016)

10K invested in RY 10 years ago are worth more than 25K today. Only a crazy person considers that to be a poor return. 

http://quote.morningstar.ca/Quicktakes/stock/perf.aspx?t=RY&region=CAN&culture=en-CA&ops=clear


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## tehal3x (May 12, 2017)

*I've lost faith*

Everyday you hear news about ransomware attacks here, fraud there. Makes you wonder if we shouldn't let foreign banks back into the Canadian fold. It would certainly have an uplifting effect on those thieves over at CIBC and TD.


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## Eclectic12 (Oct 20, 2010)

mark0f0 said:


> dotnet_nerd said:
> 
> 
> > Is there some other Royal Bank I don't know about?
> ...


What's missing is which exchange the RY shares were bought on.

Those buying on the NYSE in USD then holding probably aren't enthused with the "$53 10 years ago. Today its $67". 
Those buying on the TSE in CAD then holding are probably much happier with "$54 10 years ago. Today its $92". 

As this is the Canadian Money Forum, I suspect most buying RY did so on the TSE, not the NYSE ... which would explain the confusion. 


Cheers


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## mark0f0 (Oct 1, 2016)

Eclectic12 said:


> What's missing is which exchange the RY shares were bought on.
> 
> Those buying on the NYSE in USD then holding probably aren't enthused with the "$53 10 years ago. Today its $67".


They're the same shares no matter where you buy them. Anyways, my point was, the returns of RY (which I use generically as a proxy for the Canadian banking sector) have absolutely sucked compared to the returns achieved in taking out a loan from a bank like RY, and investing in residential real estate. And that's even before you consider leverage. Borrowing to buy a house has been far more profitable than borrowing money to lend to people to buy housing.

As RE prices fall, and spreads expand, greater returns are likely to accrue to entities who borrowing to invest in mortgage loan obligations. This should help the banks. Lower funding costs (the BoC will probably have to run ZIRP/NIRP for a decade or longer), and higher returns due to higher spreads.


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## mordko (Jan 23, 2016)

mark0f0 said:


> Anyways, my point was, the returns of RY (which I use generically as a proxy for the Canadian banking sector) have absolutely sucked compared to the returns achieved in taking out a loan from a bank like RY, and investing in residential real estate.


Fascinating. Wasn't it only a week ago that mark0f0 has been telling us ad nausium how Canadian real estate has stagnated and the prices haven't increased? Wonder how people made all them amazing market-beating returns from a stagnating asset.


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## james4beach (Nov 15, 2012)

mordko said:


> Not necessarily. This is an untested assumption. Banks' profits would shrink but do we know for a fact that Canadians would start defaulting en mass in accordance with the American 2008 scenario? The answer is "no".


It's not just defaults that hurt. Even if there isn't a big jump in defaults, any impairment in loan portfolios reduces the value of the asset on the bank balance sheet. When you shrink the assets of a leveraged institution, it suddenly starts seeing large losses. In the end it comes down to had bad the impairments and defaults are.

There's also the issue of losses the banks would see on their balance sheet due to other assets linked to real estate falling: physical property, asset backed securities, etc


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## mark0f0 (Oct 1, 2016)

mordko said:


> Fascinating. Wasn't it only a week ago that mark0f0 has been telling us ad nausium how Canadian real estate has stagnated and the prices haven't increased?


They certainly increased from 2008-2013 quite substantially. The returns at typical levels of leveraged used in RE have exceeded, by far, the return of bank stocks at typical levels of leverage deployed substantially. Adjusted for risk. 

There has been no appreciation in RE in the 2013-2017 timeframe however. RE peaked out in mid 2013 coinicident with Flaherty's Budget 2013 changes. So the banks have outperformed RE in the 2013-present period.



> Wonder how people made all them amazing market-beating returns from a stagnating asset.


Because the 2007-2013 period was so vigorous as the rates dropped from what, 4-5% or so, all the way down to the bottom.


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## OnlyMyOpinion (Sep 1, 2013)

mark0f0 said:


> They're the same shares no matter where you buy them...


Nevertheless, wondering why you would choose to quote prices for a Canadian bank on the Canadian Money Forum from the NYSE in USD?

At look at RY on TMX with reinvested dividends shows growth of 132.8% over 10 years. I wouldn't consider that anemic. 
And an investment in RY is certainly more accessable and liquid than a RE investment. No contest.


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## Eder (Feb 16, 2011)

mark0f0 said:


> Tthe Canadian banking sector) have absolutely sucked compared to the returns achieved in taking out a loan from a bank like RY, and investing in residential real estate. And that's even before you consider leverage.


Actually if you used the same leverage to buy RY your return would have far exceeded RE returns over 10 years...


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## mark0f0 (Oct 1, 2016)

OnlyMyOpinion said:


> At look at RY on TMX with reinvested dividends shows growth of 132.8% over 10 years. I wouldn't consider that anemic.


Compared to the total return in housing, its nothing. And remember that banks are typically 10-20X leveraged. So there's a lot of risk to owning bank shares. A house, not so much, unless you leverage it severely. And if you leveraged a house severely, well, the total return on leveraged funds (price appreciation + imputed or actual rent) have made that 132.8% quoted in CAD$ look quite paltry in comparison. 



> And an investment in RY is certainly more accessable and liquid than a RE investment. No contest.


Back of the envelope analysis is that RY has $880B of assets and roughly $44B of tangible shareholders' equity. So they're a 20X leveraged company.

Compare that to a 20X leveraged RE purchase, ie: someone who took out a 5% down CMHC-insured subprime loan to buy real estate in Toronto/Vancouver.

The 20X leverage RE guy has most likely taken his 5% down payment to 40-50% equity at this point. A 1000% return on equity.

The guy who bought RY shares with his 5% downpayment funds has only doubled his money (132% return, *but* there's capital gains taxes to be paid!).

Its pretty easy to understand why RY shareholders, for example, might not be too pleased with such dramatic underperformance. Bank stocks have been big losers in the past decade relative to the assets that the banks have financed.


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## mark0f0 (Oct 1, 2016)

Eder said:


> Actually if you used the same leverage to buy RY your return would have far exceeded RE returns over 10 years...


RY is already a highly leveraged entity (20X), so in recognition of such, nobody allows you to use any significant levels of leverage to buy RY shares. And loans that are offered to buy RY shares are marked to market continuously, unlike RE where the banks generally didn't care about underwater mortgages in 2009 because the BoC acted extraordinarily.


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## Eclectic12 (Oct 20, 2010)

mark0f0 said:


> Eclectic12 said:
> 
> 
> > What's missing is which exchange the RY shares were bought on.
> ...


For someone who is paid CAD, buys in CAD and has expenses in CAD ... same shares or not - the total return will return will be significantly different. 
You did talk about looking at total return, did you not?




mark0f0 said:


> ... Anyways, my point was, the returns of RY (which I use generically as a proxy for the Canadian banking sector) have absolutely sucked compared to the returns achieved in taking out a loan from a bank like RY, and investing in residential real estate ...


The comparison was Canadian banking sector versus investing in residential RE? :confused2:

Talk of "charts", "2007/2008 levels" and "total return" with no mention of residential RE as an alternative investment in the posts I read.
Makes me wonder where the confusion could come in. :biggrin:

Too bad I left my mind reading cap at home. 




OnlyMyOpinion said:


> ... At look at RY on TMX with reinvested dividends shows growth of 132.8% over 10 years. I wouldn't consider that anemic ...


Not only "anemic" but "relatively dead money" ... makes me wonder what Dream Office REIT that went from $46 down to $19 would be described as.


Cheers


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## mark0f0 (Oct 1, 2016)

Eclectic12 said:


> For someone who is paid CAD, buys in CAD and has expenses in CAD ... same shares or not - the total return will return will be significantly different.
> You did talk about looking at total return, did you not?


For the point I was trying to make, it really didn't matter. For the same level of risk (ie: investing 20X leveraged into loans -- ie: the activity of a bank, or investing 20X leveraged into housing), housing absolutely smoked the investment in banks over the past 10 years. 



> The comparison was Canadian banking sector versus investing in residential RE? :confused2:


Sure. There's 2 sides to a leveraged RE transaction, and both have profit maximization motives. The person that borrows from the bank is doing so with the belief that they will achieve a greater return on equity through leverage. The bank believes that by lending borrowed funds (rather than owning RE), it will achieve a greater return on equity.

The banks, over the past decade, have been spectacularly wrong. They've suffered a very sub-par return on equity. Only collecting a few bp of spread and cumulatively a 100%-150% return while the RE borrowers have walked away with 1000% returns for the same levels of leveraged employed.

Effectively the borrowers have transferred wealth from the banks, to themselves through leveraged RE ownership.

Its my suggestion that as RE prices decline, and as spreads widen, the pendulum will shift towards the banks earning dramatically better returns than the mortgage borrowers.


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## james4beach (Nov 15, 2012)

mark0f0 said:


> Back of the envelope analysis is that RY has $880B of assets and roughly $44B of tangible shareholders' equity. So they're a 20X leveraged company.


Not a bad estimate. A better figure can be found by using the CET1 capital figure, Common Equity Tier 1 capital which is a conservative measure of tangible common equity dictated by Basel III.

RY leverage is 25:1


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## mordko (Jan 23, 2016)

OK, but that's comparing apples and pears. Tier 1 capital ratio is nothing like someone borrowing to invest in shares. Not even close.


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## mark0f0 (Oct 1, 2016)

mordko said:


> OK, but that's comparing apples and pears. Tier 1 capital ratio is nothing like someone borrowing to invest in shares. Not even close.


The point was, RY (which is representative of the big-5 Canadian banks) are leveraged 20-25X, and have experienced paltry returns over the past decade relative to a similarly leveraged home owner. The result of very tight spreads on mortgage loans.

Thus successfully attacking the claim that the banks have performed well in the RE appreciation seen in the past 10 years. They have not. They will likely perform better in the deflation of the RE bubble, where they will be able to benefit through increased spreads.


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## doctrine (Sep 30, 2011)

> Its my suggestion that as RE prices decline, and as spreads widen, the pendulum will shift towards the banks earning dramatically better returns than the mortgage borrowers.


RE doesn't have to decline to be a poor investment. A more typical $300k Canadian property inflating at 3% a year can easily return nothing as costs to carry that property WILL be equal to or greater than $9,000 a year. Even if you leverage up 20 times, you are making nothing and more likely probably losing money. You definitely need more than 5% to make a clear profit on your 20x leverage.


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## gibor365 (Apr 1, 2011)

james4beach said:


> Not a bad estimate. A better figure can be found by using the CET1 capital figure, Common Equity Tier 1 capital which is a conservative measure of tangible common equity dictated by Basel III.
> 
> RY leverage is 25:1


james.I hope you didn't start shorting RY again?!


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## mordko (Jan 23, 2016)

doctrine said:


> RE doesn't have to decline to be a poor investment. A more typical $300k Canadian property inflating at 3% a year can easily return nothing as costs to carry that property WILL be equal to or greater than $9,000 a year. .


I am not sure how you define "typical". Typical Hamilton property bought 3 years ago for $300K is typically worth $600K today. I'd say the return has been OK. A typical Toronto house is worth millions; ditto for Vancouver. 

The story is different in rural areas but in general RE has been an awesome investment. Does not mean it will be going forward.


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## doctrine (Sep 30, 2011)

Is that $600k home in Hamilton going to be worth $1.2M in 3 years, and $2.4M in 6 years, and $4.8M in 9 years? Sounds good to me, I'll leverage up 20 times for that all day. Fact is that outside of the insanity bubbles of Toronto and Vancouver (and suburb impacts), real estate does not go up 30% a year, ever. In some places, real estate actually decreases.


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## james4beach (Nov 15, 2012)

gibor365 said:


> james.I hope you didn't start shorting RY again?!


Nope. I don't trade stocks based on news releases or credit upgrades/downgrades.

The vast majority of my investing is passive based on asset allocations. On rare occasions I do some speculative stock trading, just as a game. This is mostly based on technical analysis.


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## mark0f0 (Oct 1, 2016)

doctrine said:


> RE doesn't have to decline to be a poor investment. A more typical $300k Canadian property inflating at 3% a year can easily return nothing as costs to carry that property WILL be equal to or greater than $9,000 a year.


But the property does provide a return in the form of rent or imputed rent. For my (simplistic) analysis, I assumed that the mortgage payment was roughly equal to imputed rent when comparing total returns on a 20X leveraged investment (ie: buying bank stock, or alternatively, buying RE with 5% down!). 

Obviously the bank stock doesn't ask you to pay $$$ every month to own it. The RE does, but provides you with imputed or actual rent. So they cancel each other out, roughly speaking. Yes, RE is that overvalued in Canada, even in 2007. If there were positive earnings, net of all expenses, taxes, depreciation, etc., then that makes the case for investing in housing, rather than bank stocks 10 years ago even more compelling.



> Even if you leverage up 20 times, you are making nothing and more likely probably losing money. You definitely need more than 5% to make a clear profit on your 20x leverage.


Only if you leave the unit vacant. Which nobody rationally does, at least deliberately.



> I am not sure how you define "typical". Typical Hamilton property bought 3 years ago for $300K is typically worth $600K today.


Quite a severe exaggeration.



> I'll leverage up 20 times for that all day. Fact is that outside of the insanity bubbles of Toronto and Vancouver (and suburb impacts), real estate does not go up 30% a year


Very few, if any actual investible individual housing units went up 30% last year in Vancouver/Toronto. What has changed significantly in those cities is the sales mix. The result of tapped out buyers at the low end, and the delivery of large amounts of brand new un-depreciated supply.


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## mordko (Jan 23, 2016)

mark0f0 said:


> Quite a severe exaggeration.


OK, you obviously don't live anywhere near Canada (or planet Earth), so let me give you an example of how it actually works. 

In 2013 three house on Levanna Street in Oakville sold for between $415K and $459K (they are all very similar). In 2017 one of these houses sold for $836K. 

In 2011 a house in Pelee Blvd Oakville got sold for $289K. In 2016 the same house got sold for $600K. 

I picked one town and a couple of examples, but its *nothing out of the ordinary *in the GTA. You can pick any street in a whole range of towns and get exactly the same result (aka doubling in the last 3-4 years).


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## mark0f0 (Oct 1, 2016)

mordko said:


> OK, you obviously don't live anywhere near Canada (or planet Earth), so let me give you an example of how it actually works.
> 
> In 2013 three house on Levanna Street in Oakville sold for between $415K and $459K (they are all very similar). In 2017 one of these houses sold for $836K.


Most likely either between related parties, or after severe re-investment. 



> In 2011 a house in Pelee Blvd Oakville got sold for $289K. In 2016 the same house got sold for $600K.
> 
> I picked one town and a couple of examples, but its *nothing out of the ordinary *in the GTA. You can pick any street in a whole range of towns and get exactly the same result (aka doubling in the last 3-4 years).


Nope, very uncommon. But RE pumpers like to leave lots of details out. 

Actual Canadians, with actual Canadian RE, are not flush with home equity due to this alleged 'appreciation' because its not happening on individual properties that people actually own. The Canadian dollar dropped 30% relative to the USD$ over the past few years, and not a sniff of inflation appeared. Which completely contradicts the idea of Canadians having spending power due to rising equity. Spreads on mortgage loans have also been expanding due to stagnating prices nationwide. The financing marketplace is removing financing from mortgage lenders, such as HCG, who are most likely systemically overstating LTVs given the lack of actual appreciation in post-2013 era.


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## mordko (Jan 23, 2016)

Yeah, I am an obvious "RE pumper". Cause I tell everyone that RE is in a bubble so buying now is kinda dumb. That's what pumpers do. 

And guess I am not an "actual Canadian" because I sold the house I actually owned in the GTA and discovered massive "appreciation", not having spent any money on the place. Now, I could be related to the party I sold it to but we are talking quite a few generations for she is Chinese and I am Jewish. 

Let's get back to the real issue here, for you are nothing short of amazing. Which planet are you from?


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## mark0f0 (Oct 1, 2016)

mordko said:


> Yeah, I am an obvious "RE pumper". Cause I tell everyone that RE is in a bubble so buying now is kinda dumb. That's what pumpers do.


Of course its a bubble, but it was an even bigger bubble in 2013.



> And guess I am not an "actual Canadian" because I sold the house I actually owned in the GTA and discovered massive "appreciation", not having spent any money on the place. Now, I could be related to the party I sold it to but we are talking quite a few generations for she is Chinese and I am Jewish.


Your single experience cannot be extrapolated to the rest of the GTA which hasn't seen appreciation on the average individual identical unit since 2013.



> Let's get back to the real issue here, for you are nothing short of amazing. Which planet are you from?


Completely and utterly uncalled for.


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## OnlyMyOpinion (Sep 1, 2013)

Mark - I'm interested in your source of data supporting your contention that GTA _"hasn't seen appreciation on the average individual identical unit since 2013"_.

My experience with 2 residential GTA units (detached, one entry level, one mid-upper) in the last 3 years has been similar to Mordko - large appreciation in price. Certainly my single experience can't be extrapolated either, but it seems similar to data such as this graph:

View attachment 14810


You must have data then that contradicts this?


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## mark0f0 (Oct 1, 2016)

OnlyMyOpinion said:


> Mark - I'm interested in your source of data supporting your contention that GTA _"hasn't seen appreciation on the average individual identical unit since 2013"_.
> 
> My experience with 2 residential GTA units (detached, one entry level, one mid-upper) in the last 3 years has been similar to Mordko - large appreciation in price. Certainly my single experience can't be extrapolated either, but it seems similar to data such as this graph:
> 
> View attachment 14810


The chart claims a near doubling in 3 years. But consumer behavior is contradicting this quite significantly. The CAD$ depreciated by 30%. Yet inflation was nowhere to be seen. In a rising house price environment of such (claimed) vigour, people would be flush with cash and spending. The BoC would have needed to raise, not lower the policy rate over the interval.

The data I use is proprietary, so I can't share it. Ross Kay came to the same conclusion with a different method of analysis (he publishes some of his stuff publicly). But needless to say, the median price has grown dramatically faster than the mean price, making it pretty obvious that there has been a dramatic shift to the sales mix responsible for most of the claimed gains. Quite conveniently the Realtor-types resist the public publication of complete datasets.


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## fplan (Feb 20, 2014)

james4beach said:


> Why does this not inspire trust in Moody's? People rely on the credit rating agencies to inform them about risks before problems materialize. Here, Moody's has put out a warning before any obvious deterioration has been observed. They are saying that the banks, and the economy, are highly vulnerable to a slowdown and that high levels of debt are a risk factor.
> 
> I think this is the right kind of action. People depend on the credit rating agencies to inform them about credit risk. Not to wait until things have obviously fallen apart and then state the obvious.


May be true till 2008..after that rating agencies are just like another business.. isnt their aaa rating cdos screwed manyinvestors and responsible for market meltdown??


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## fplan (Feb 20, 2014)

james4beach said:


> That's not what happened in the US, England, Ireland, and Spain. Poor credit conditions caused massive losses at the banks and there was nothing remotely profitable about this.
> 
> But maybe it will be different for Canada. Maybe you're right, maybe the Canadian banks thrive during a credit boom and thrive _even more_ during a credit bust.


IMO US is different from Canada.. any person who loses job in us loses his /family health insurance. He has to decide whether to repay mortgage or get health coverage or both.. medical insurance for a single person costs around 300..so he has to manage mortgage and insurance.. with limited savings many people fall behind.. here in canada all he needs to worry about is his mortgage.. thats the reason RE may not crash like US..and if needed canada can invite wealthy individuals through immigration to improve RE situation


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## OnlyMyOpinion (Sep 1, 2013)

mark0f0 said:


> ... The data I use is proprietary, so I can't share it. Ross Kay came to the same conclusion with a different method of analysis (he publishes some of his stuff publicly). But needless to say, the median price has grown dramatically faster than the mean price, making it pretty obvious that there has been a dramatic shift to the sales mix responsible for most of the claimed gains. Quite conveniently the Realtor-types resist the public publication of complete datasets.


It seems then that my experience with both real estate and RY share performance in the past 10 years are at odds with yours. 
RK has a service to sell so his public stuff is actually not that insightful IMO. Certainly his data isn't available either.
ISTM that if realtor-types were to make their complete datasets available, the future of his service and podcasts might be short-lived. But by now I suppose he must be incredibly wealthy anyway.


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## mark0f0 (Oct 1, 2016)

OnlyMyOpinion said:


> It seems then that my experience with both real estate and RY share performance in the past 10 years are at odds with yours.


Well the discrepancy was quoting in CAD$ versus USD$. The point I made, that banks have been awful investments compared to RE at similar levels of effective leverage was still valid nonetheless.



> RK has a service to sell so his public stuff is actually not that insightful IMO. Certainly his data isn't available either.
> ISTM that if realtor-types were to make their complete datasets available, the future of his service and podcasts might be short-lived. But by now I suppose he must be incredibly wealthy anyway.


So everyone has a credibility problem. The Realtors. Me. Ross Kay. But the macro data, that of no great stimulation of consumer demand due to rising RE prices, definitely doesn't point to any great RE mania beyond that which existed in 2013. Bank credit figures do not show any meaningful expansion beyond the usual. The "foreign money" thesis has been disproven as junk. The only piece of the puzzle that doesn't seem to be supported is the idea that there's been appreciation on individual units. Its quite easy to see that there's been significant mix driven changes. RE bulls will, of course, deny, deny, deny that the mix is highly influential, but with so many newly delivered units in the GTA/GVR marketplaces, and with first time buyers locked out of the market substantially, its pretty obvious.

HCG only being able to use their mortgages at 50% collateral to obtain secured financing is another datapoint in support of no recent appreciation.


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## mordko (Jan 23, 2016)

mark0f0 said:


> The data I use is proprietary, so I can't share it. .


I am sending you a bill for the new keyboard. You made me laugh so hard that I spilled my morning coffee on the keyboard.


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## mordko (Jan 23, 2016)

mark0f0 said:


> Well the discrepancy was quoting in CAD$ versus USD$. The point I made, that banks have been awful investments compared to RE at similar levels of effective leverage was still valid nonetheless.
> 
> 
> 
> ...


- the "foreign money" thesis has not been disproven at all. There is shortage of data but we know that foreign and particularly Chinese buyers are heavily invested http://business.financialpost.com/n...ousing-market-whether-theyre-landlords-or-not

- "Bank credit figures do not show any meaningful expansion beyond the usual" - completely false. Here are the actual data which talk about unprecendented expansion of household debt, fueled by low interest and mortgages: https://www.thestar.com/business/20...bt-hits-another-record-in-fourth-quarter.html. 

Suppose if you are trying to prove that 2x2=5 then you have to also claim that 2x3=7.


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## james4beach (Nov 15, 2012)

Here's some non proprietary data that's relevant to the bank situation. Basically, the bankruptcy rates in Canada have been steadily declining in the last few years. I don't anticipate any kind of trouble with our banks unless this rate spikes up. However, if BK rates rise, the banks are certainly vulnerable to this.


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