Double Blind

Tony made a couple comments on a previous post which I will respond to here since my comments were longer than the original post.

How would currency fluctuations affect housing prices? For example, a house valued at 100,000 CAD (I wish!) suddenly becomes much more cheap for someone with assets in USD. Having said that, most of the market for Canadian houses (presumably) has their assets in CAD, so should this have much upwards pressure on prices?

If you were lucky enough to purchase a place in the US when the Canadian currency was at par (or better) then you’re thinking about laughing to the bank until you actually try selling your US property. Then you’ll discover that your currency-adjusted returns are going to be the same and then discover the myriad of rules concerning foreign ownership of US properties (e.g. the dreaded IRS withholding).

I would suspect that currency changes are a lagging indicator rather than a leading one, but when it comes to currency markets nobody truly knows what they’re talking about. For example, just recently you had everybody saying the US currency would go into the tank due to huge fiscal deficits – didn’t happen that way. Another moment and the reason for movement in the currency market will be “economic performance of the country”, and another moment it’s “interest rate differentials” and then another moment it’s the “fiscal situation” and then another moment it’s the “trade surplus/deficit”. So my own speculation is that speculating on currency movements is a very difficult business.

I’m fairly sure, however, that real estate prices are going to drop significantly over the next 5-10 years, far longer than what anybody else will anticipate (the current speculation says that things will drop over the next two years and recover after). If we are following the 1989-Japan analogy, we are where Japan was in 1994 – zero short term interest rates (coming soon), and a deflationary cycle. Bond yields will be in the very low single digits, which means the only place to get any sort of meaningful return on investment will be in companies that produce stuff that people must buy (consumer staples like food, telecommunication services, etc.).

Try to avoid debt-heavy companies as well. Most companies in the consumer staples and telecommunication industries have quite a bit of financial leverage, so the pickings are slim. But that’s what research is for.

Fixed income investments in corporate bonds of companies that stand a reasonable chance of paying off debt should do fairly well over the next few years.

In terms of currencies, recall that Japan’s debt-to-GDP has gone from nothing to 170% of GDP and its currency still hasn’t tanked.

While I’m on that topic, to what extent do you think that CMHC loan insurance causes house prices to go up (i.e., to what extent do you think it has the opposite effect of what it’s supposed to do, make house ownership more accessible)?

I think your theory is correct – by allowing more credit into the system (which otherwise wouldn’t be possible with mortgage insurance), it increases demand on housing, increasing prices. The private market has the ability of providing the same service, so CMHC no longer has a monopoly on mortgage insurance.

The price of real estate will continue to decline as long as carrying costs remain materially higher than any income stream, plus the realization that capital gains are no longer to be had – when the expectations of capital gains disappear from the real estate market, you will continue to see a flood of demand in the marketplace until rental costs come to parity with carrying costs (including cost of capital) of properties. This was the case in the early 90′s and it will happen again.

Housing is expensive, and ownership still does not give you control of your property – control is given to municipal governments that decide what you can and can’t build on your land.

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