Bernanke's bittersweet rate pledge

Janet Whitman, Financial Post

NEW YORK -- Stock-market investors may have cheered Ben Bernanke's plan to keep benchmark interest rates at next to zero for at least the next several months but his pledge is also a signal the U.S. economy remains in rough shape.

Just how precarious the country's nascent economic recovery is was highlighted by a slew of data released this week: U.S. banks posted their sharpest drop in lending last year since 1942, sales of new homes plunged to their lowest level on record last month, already gloomy consumer confidence took a surprise dive this month, and hundreds of community banks could be forced to close their doors because of their exposure to souring commercial loans.

U.S. unemployment, meanwhile, is expected to remain stuck for the rest of this year at around a 26-year high of 10%.

Speaking before U.S. lawmakers at a hearing in Washington, D.C., Wednesday, Mr. Bernanke, the chairman of the U.S. Federal Reserve, said the economy still needs to be shored up by record-low interest rates.

"Notwithstanding the positive signs, the job market remains quite weak," he said as he delivered his semi-annual report to U.S. Congress. "Of particular concern, because of its long-term implications for workers' skills and wages, is the increasing incidence of long-term unemployment; indeed, more than 40% of the unemployed have been out of work six months or more, nearly double the share of a year ago."

Stocks surged on the news, relieved that borrowing to fuel leverage and company borrowing and investment would remain cheap for some time to come while rock bottom rates makes equities a more attractive bet than bonds.

The Dow Jones Industrial Average gained 91.75 points to 10,374.16, ending two days of losses. Toronto's main stock index ended virtually unchanged at 11,521.83.

Although perhaps a boon for stocks for now, the gloomy backdrop raises the question whether the U.S. economy can stand on its own two feet or faces the threat of a "double dip" recession as the hundreds of billions of dollars in government stimulus wears off.

"There's enough stimulus in the pipeline to keep the economy bumbling along for a while, but we haven't solved any of our main problems," said Joshua Shapiro, chief U.S. economist with MFR Inc. "There's still way too much leverage in this economy and how do you get out of that without further massive pain?"

Mr. Shapiro doesn't expect the economy, which emerged from its recession about seven months ago, to slip into a recession again this year or next. But he expects overall economic growth to slow in 2011 compared to this year. Beyond that, he said, the outlook is murky.

John Ryding, chief economist with RDQ Economics, said he's not anticipating another recession, but added that growth is likely to be so sluggish and employment so high that it might feel like a recession to many Americans.

"Jobs probably will start to be created in March and beyond, but the rate won't be fast enough to make significant inroads on the unemployment rate," Mr. Ryding said.

"It's going to feel like a recession in the labour market."

Tackling America's massive deficit will also be a major factor as the economy recovers.

"It would be helpful for the current situation if the Congress and the administration ... could provide a plan which shows how the deficit will fall to 2.5%-3% level, at least, over the next 10 years," Mr. Bernanke told lawmakers Wednesday. "I don't know exactly which programs, what taxes, what changes you would make. That's certainly up to Congress. But a concerted effort to do that would be, I think even a strong effort, would probably be good for confidence."

Some economists worry that lawmakers won't be able to find a solution to the debt problem.

"I think it's going to be very difficult for politicians to come to grips with this," said Mr. Shapiro of MFR. "The political cycle is two years or less. The temptation is to deny reality and go for temporary fixes."

Why Canada's housing market didn't burst

| Tuesday, 16 February 2010 MortgageBrokerNews.ca

Housing markets in the United States and Canada are similar in many respects, but each has fared quite differently since the onset of the financial crisis.Unlike the U.S., Canada has not experienced a dramatic increase in mortgage defaults, nor has any Canadian bank required a government bailout. As a result, observers such as The Economist have pointed to Canada as "a country that got things right."

The different housing market outcomes in Canada and the U.S. can tell us something about the underlying causes of the housing boom and subsequent bust in the latter. In particular, they can be used to evaluate the roles that low interest rates and relaxed lending standards played.

Monetary Policy and the U.S. Housing Bust Some observers blame monetary policy for lowering interest rates over 2002-2005, pushing up housing demand, increasing residential investment and raising housing prices. In this view, the monetary-policy induced housing boom thus set the stage for an inevitable housing bust.

The low interest rate policy of the Federal Reserve over 2001-2005 is often cited as a key factor in the U.S. housing bust. The main narrative is that by lowering short-term interest rates, longer-maturity mortgage interest rates are pushed down. This increases the demand for housing, puts upward pressure on housing prices and encourages builders to ramp-up construction of new homes. This leads to an "oversupply" of new homes, which triggered the housing bust in the U.S.

There are also claims that interest rates were too low over 2001-2005, when looked at by both historical standards, as well as compared to those predicted by the Taylor rule (a monetary policy rule which relates U.S. Federal Reserve's ideal target rates to inflation and GDP).

The Bank of Canada made dramatic reductions in its target interest rate over 2001-2002, but one might argue that Canadian monetary policy was not quite as "loose" as that in the U.S. as it maintained a higher overnight rate over 2002 to 2004.

But a case can be made that Canadian and American monetary policies were very similar, at least in terms of the housing market. Estimates put the deviations from the Taylor rule for Canada and the U.S. over 2001-2006 to be nearly identical. In fact, the two benchmark mortgage interest rates move closely with one another until after the beginning of the U.S. housing market crisis, when U.S. rates fell significantly below Canadian rates.

Mortgage interest rates-the main direct channel through which monetary policy impacts the housing market-tracked each other closely in the two countries, but unlike the U.S., where the mainstay of the mortgage market is the 30-year fixed mortgage, the most common mortgage product in Canada is a five-year fixed-rate mortgage (with a 25-year amortization period).

Relaxed Lending Standards: different subprime lending booms
Another leading explanation of the housing boom and bust relies critically on relaxed lending standards. This story is linked to the dramatic rise in subprime lending and high levels of loan securitization, which some commentators have argued reduced the incentives for mortgage originators to maintain underwriting standards. This is one area where there was a significant difference between the two countries, both in the size and nature of the subprime market and in the fraction of mortgages securitized.

Subprime lending has grown rapidly in both countries, though the magnitude has been far more striking in the U.S. While subprime mortgages accounted for less than five per cent of mortgage originations in the U.S. in 1994, one-fifth of all mortgages originated between 2004 and 2006 were subprime.
But while subprime lending also increased in Canada, it remained much smaller than in the U.S.

The most cited estimate is that subprime lenders had a market share of roughly five per cent in 2006, compared to 22 per cent in the U.S. Moreover, the Canadian subprime market never expanded significantly into newer products, such as interest-only or negative amortization mortgages, whose popularity grew rapidly in the U.S. from 2003 to 2006. Instead, the Canadian subprime market mainly offered products popularized in the U.S. during the 1990s, such as longer amortization periods for loans (from 25 to 40 years), and mainly targeted near-prime borrowers.

Securitization has also been less common in Canada than in the United States, with roughly 25 per cent of Canadian mortgages securitized in 2007 versus nearly 60 per cent in the U.S. The Canadian securitization market has grown rapidly over the past decade, rising from roughly five per cent of mortgages in 1998 to over 25 per cent in 2008.

However, in many ways, the Canadian market resembles the early stages of the U.S. mortgage securitization market, as most securitized mortgages in Canada are backed by an explicit government guarantee. This government guarantee requires limits on borrowers' debt-service ratios and amortization periods, which makes it more difficult for lenders to offer some types of subprime loans.

The subprime story is also consistent with the different pattern of mortgage delinquencies in Canada and the U.S. In the U.S., mortgage delinquencies for both prime and nonprime mortgages began to rise before the recession began and unemployment rates began to climb.

In contrast, mortgage delinquencies in Canada have only recently begun to increase, after unemployment rates started rising and the Canadian and world economies slowed sharply in the fall of 2008. Finally, the relaxed lending story is consistent with the fact that the U.S. experienced a housing bust over 2007-2009 while Canada did not.

While the expansion of subprime lending provided a temporary boost to housing price growth rates, when prices stopped rising, the inability of some borrowers to refinance homes they could not afford led to a spike of delinquencies. The resulting increase in liquidation and foreclosure sales put additional downward pressure on house prices, which, in turn, pushed more borrowers into default. This negative feedback cycle helped push a correction in the housing market into a housing bust.

One possible critique of this argument is that while Canada has not yet experienced a housing bust, it is likely to experience one in the next year. Indeed, a recent Merrill-Lynch- Canada report noted that Canadian house prices over the past decade closely resemble U.S. house prices with a two-year lag. Based on this, they concluded that Canada was also likely to experience large decline in house prices over the coming year.

Canada's smaller subprime market share and fewer households with high LTV ratios, however, suggest that the country is less likely to see the rapid increase in defaults that helped trigger the bust in U.S. housing prices. So far the incoming data suggest that the Canadian housing market is likely to experience a housing market slowdown rather than a bust.

Why was the subprime market in Canada smaller?
Given the key role played by the "subprime" market, the question is why the Canadian subprime market was both smaller and levels of securitization were lower than in the U.S. While it is difficult to disentangle the reasons why Canada avoided the subprime boom, some factors can be identified that may have contributed to the differences in the Canadian and U.S. subprime markets.

Perhaps the simplest story is that Canada was lucky to be a late adopter of U.S. innovations rather than an innovator in mortgage finance. While the subprime share of the Canadian market was small, it was growing rapidly prior to the onset of the U.S. subprime crisis. In response to the U.S. crisis, some subprime lenders exited the Canadian market due to difficulties in securing funding. In addition, the Canadian government moved in July 2008 to tighten the standards for mortgage insurance required for high LTV loans originated by federally regulated financial institutions.

This further limited the ability of Canadian banks to directly offer subprime-type products to borrowers.
There are also several institutional details that played a role. For one, the Canadian market lacks a counterpart to Freddie Mac and Fannie Mae, both of which played a significant role in the growth of securitization in the U.S.

Secondly, bank capital regulation in Canada treats off-balance sheet vehicles more strictly than the U.S., and the stricter treatment reduces the incentive for Canadian banks to move mortgage loans to off-balance sheet vehicles. Finally, government-mandated mortgage insurance for high LTV loans issued by Canadian banks effectively made it impossible for banks to offer certain subprime products. This likely slowed the growth of the subprime market in Canada, as nonbank intermediaries had to organically grow origination networks.

The Canada-U.S. comparison suggests the low interest rate policy of the central banks in both countries contributed to the housing boom over 2001-2006, but that a relaxation of lending standards in the U.S. was the critical factor in setting the stage for the housing bust.

A caveat worth emphasizing, however, is that it tells us little about what would have happened if U.S. monetary policy had been tighter earlier, as tighter monetary policy in the early part of the decade may have helped to limit the subprime boom by slowing the rate of house price appreciation over 2002-2006.

One thing the comparison does highlight, however, is the practical challenge facing policy-makers in assessing whether a rapid run-up in asset prices is actually a bubble, or just a sustainable movement in market prices.

Bank of Canada urged to hike rates after June

Paul Vieira, Financial Post

OTTAWA -- With Bay Street convinced the Bank of Canada will maintain its pledge to wait until July to begin raising interest rates, the debate now turns to how aggressively the central bank should behave thereafter.

In the view of a paper prepared for the C.D. Howe Institute, the central bank should act with zeal. If it wants to get ahead of the inflation curve, the bank should raise its benchmark rate by 50 basis points at every scheduled rate announcement until the middle of next year, the paper said.

Michael Parkin, an economics professor at the University of Western Ontario and member of the think-tank's monetary policy council, said "steep" increases would be required to make up for keeping the benchmark rate so low for so long.

The paper comes a week before the Bank of Canada's next interest-rate statement, scheduled for March 2 and the same day Mark Carney, the bank governor, held an annual meeting with leading private-sector economists in Ottawa.

The bank cut its benchmark rate last year to a record low 0.25%, and made a pledge -- conditional on inflation -- to keep it there until the end of June in an effort to pump up the economy amid the financial crisis. Analysts say the move has worked. Figures on gross domestic product, to be reported next week, should indicate the economy grew roughly 4% in the fourth quarter, above the central bank's own expectations. And inflation is closer to the bank's 2% target earlier than envisaged, although analysts suggest price increases could lose some steam in the weeks ahead.

The main thrust of Mr. Parkin's argument is the central bank needs to raise rates as aggressively in anticipation of the recovery as cut in response to the financial crisis. This would be in line with the Taylor rule, which dictates by how much a central bank should move its benchmark rate in response to inflation.

Based on the central bank's own economic projections, Mr. Parkin calculated the future path of interest rates. "When the [benchmark] rate starts to rise, it must be on a steep upward path," he wrote. Under the Taylor rule the benchmark rate should in fact, be higher than present levels. As a result, a target rate "somewhat higher" than what otherwise would be required might be necessary for the latter half of this year and all of next, he said, "to avoid inflation running above target."

Economists indicate the central bank, if possible, will keep its pledge because reversing course now could damage its credibility.

Other analysts also signalled that they shared some of Mr. Parkin's view.

"In order to move from an exceptionally low to low-rate environment, you need to move fast," said Sébastien Lavoie, economist at Laurentian Bank Securities, which last fall indicated in a report Mr. Carney would need to entertain rate increases of up to a percentage point.

Michael Gregory, senior economist at BMO Capital Markets, said that by mid-2011 the benchmark rate would "have to be in proximity of being neutral."

However, he added the central bank would have to take into account the strength of the loonie in determining the appropriate level of interest rates. The currency is likely to climb as the Bank of Canada moves ahead of the U.S. Federal Reserve, and perhaps more aggressively, Mr. Gregory said. http://www.financialpost.com/news-sectors/economy/story.html?id=2602124

Canada is not USA

February record sales activity jumps 74 per cent in Toronto

Monday, 22 February 2010, Mortgage Broker News

The Greater Toronto Realtors reported a 74 per cent increase in sales for the first two weeks of February compared to last year, when the recession hit hardest.

There were 3,555 sales through MLS during the first half of this month, compared to 2,0044 during the same period in 2009. This month's activity was even 7.7 per cent higher than the previous record in 2006.

"Home ownership demand remains strong in the GTA, as households remain confident that economic recovery is at hand and that ownership housing will continue to be a quality long-term investment," says Tom Lebour, president of the Toronto Real Estate Board.

Accordingly, the increased activity has led to higher prices as well. The average price for February mid-month transactions was $429,997, up 18 per cent from 2009. That's also drawn more sellers out hoping to cash in. New listings with the Toronto Real Estate Board's boundaries were up 15 per cent to 6,212.

The board's senior market analyst Jason Mercer says double-digit price increases wil continue through the first quarter of the year.

"However, as new listings continue to increase, creating a better supplied market, we will see the annual rate of price growth moderate into the single digits," says Mercer.

U.S. mortgage delinquencies remain at record levels

| Monday, 22 February 2010

One in 10 borrowers is seriously delinquent on their U.S. mortgage, with their payments at least 90 days past due or in foreclosure. That compares to one in 16 borrowers a year ago and one in 33 two years ago, according to the Mortgage Bankers Association.

The U.S. Treasury Department last week issued figures showing that under the Home Affordable Modification Program, the number of permanent loan modifications has increased to 116,000. In Las Vegas last week, President Barack Obama has announced plans to provide $1.5 billion to the five states hit hardest by foreclosures.

California, Arizona, Florida, Michigan and Nevada will split the allocation based on need, and administered by the state Housing Finance Agencies. The Mortgage Bankers Association says 17 per cent of all loans in California are past due, for example.

Some in the mortgage industry had hoped for more additional broad measures, however.

"The industry's own figures attest to the fact that the damage from the bad lending that's brought down the economy continues virtually unchecked," says Michael Calhoun, president of the Center for Responsible Lending. "We hope Congress will keep these figures in mind and agree that American families deserve a fair shake on their finances, including more aggressive foreclosure prevention and a strong watchdog to prevent another lending debacle in the future."

US Fed seeks to calm markets after discount rate rise

Emily Kaiser and Mark Felsenthal, Reuters

WASHINGTON/MEMPHIS, Tennessee -- Federal Reserve officials moved to calm speculation that a surprise rise in its emergency lending rate could bring forward broader policy tightening, saying borrowing costs in the economy would stay low.

Fed Chairman Ben Bernanke flagged the move last week, saying the central bank aimed to widen the spread between its main policy rate that remains pegged near zero and the discount rate at which banks can borrow from the Fed.

However, no one in markets expected it to act so soon and the timing of the move -- well ahead of the March 16 policy meeting -- prompted investors to price in a greater likelihood of a rise in the benchmark fed funds rate late this year.

The dollar jumped and government bonds and bank stocks fell after the Fed raised the discount rate by 25 basis points to 0.75 percent even as it cast it as a response to improved financial market conditions and not a change in monetary policy.

"This is a significant and likely symbolic move that will impact on market sentiment," Robert Rennie, a strategist at Westpac in Sydney said in The Dealing Room, a Reuters Messaging chat room.

"The emergency easing cycle began with discount rate cuts - it was all about easing liquidity to banks. So the move to raise the discount rate means the long journey toward normalization has begun."

Thursday's move is the first increase in any of the Fed's lending rates since the financial crisis blew up in 2007 and the first rate change since December 2008.

"The modifications are not expected to lead to tighter financial conditions for households and businesses and do not signal any change in the outlook for the economy or for monetary policy," the Fed said in a statement.

OVERBLOWN EXPECTATIONS

While investors initially brushed aside the Fed's assurances that no tightening for the broad economy was on the cards, warnings from a senior Fed official that markets have gone too far in their tightening bets finally did sink in.

St. Louis Federal Reserve Bank President James Bullard said investors belief in high probability of a rise in the Fed's benchmark rate this year was "overblown" and that the discount rate rise should not be seen as a policy signal.

"The discount rate move is part of a normalization process which is akin to our discontinuing many of our liquidity programs," Bullard, who votes on the Fed's interest rate-setting panel this year, told reporters in Memphis. "It does not indicate anything one way or the other about what we might eventually do with the federal funds rate," he added.

The dollar pared gains and treasury futures trimmed losses, after Bullard's comments and reminders from fellow Fed officials that cheap credit was still the order of the day.

"Monetary policy -- as evidenced by the fed funds rate target -- remains accommodative," Dennis Lockhart, Atlanta Fed president, said in a speech. "This stance is necessary to support a recovery that is in an early stage and, in my view, still fragile."

Still, share markets in Asia were on the defensive as the Fed's action, which follows China's moves to curb lending, served as a reminder that the period of cheap cash that fueled last year's stock market rally may be slowly drawing to an end.

RETURN TO NORMAL

Before the financial crisis, the discount rate was typically a full percentage point above the federal funds rate. Thursday's decision begins to move it back nearer to its traditional premium and it said it would assess over time whether it needed to further widen the spread between the two rates.

The central bank's view of the economy has brightened in recent months as job losses eased, consumer spending strengthened and businesses stepped up purchases of equipment and software. The Fed has warned, however, that recovery from the deepest U.S. recession since the 1930s will probably be sluggish and has said it expects to keep the federal funds rate near zero, where it has been since December 2008, for "an extended period."

In its statement on Thursday, it said the economic and policy outlook remained broadly unchanged from late January, when its policy committee reiterated that low-rate pledge.

Some other central banks around the world have begun to tighten policy. Australia led the way last year and its central bank chief signaled on Friday more rate increases in months ahead while China surprised markets twice in the past two months by lifting banks' mandatory reserves.

In the United States, however, the Fed has said record low interest rates are still warranted with the unemployment rate near 10 percent.

"I don't think the Fed dares (to) increase the fed funds or policy rate in the face of unemployment at double-digit type of levels," Bill Gross, the manager of Pimco, the world's biggest bond fund, told Reuters after the Fed announcement.

Other changes announced on Thursday included shortening the typical maximum maturity for primary credit loans to overnight from 28 days, effective March 18, and raising the minimum bid rate for the Fed's Term Auction Facility, another scheme put in place to foster market liquidity.

Read more: http://www.nationalpost.com/story.html?id=2586136#ixzz0fzHJjrrN

Tighter Mortgage Rules May Lower Bond Yields: Canada Credit

February 17, 2010, 12:24 AM EST

By Greg Quinn

Feb. 17 (Bloomberg) -- Canada’s decision to tighten mortgage requirements may ease pressure on the central bank to raise interest rates to slow gains in housing prices, said David Rosenberg, chief economist Gluskin Sheff & Associates Inc.

Yields on futures contracts tied to bets about the central bank’s target rate fell yesterday after Finance Minister Jim Flaherty laid out his plan. The yield on the six-month overnight index swap declined to 0.285 percent from 0.30 percent on Feb. 15, the biggest drop in more than a month. The yield on Canada’s benchmark one-year government debt decreased to 0.55 percent from 0.59 percent.

“The Canadian bond market will probably catch a bid” from the policy changes, Rosenberg said in a telephone interview from Toronto. “So long as you can take any residual Bank of Canada tightening out of the Canada curve, that will be more beneficial than detrimental towards bond yields.” Policy makers won’t raise interest rates this year, he said.

The regulatory changes may make it easier for Bank of Canada Governor Mark Carney to keep his commitment to leave the benchmark rate at a record low 0.25 percent unless the inflation outlook shifts.

“The Bank of Canada does not need to raise rates to address inappropriate housing market strength,” said Eric Lascelles, chief economics and rates strategist at Toronto- Dominion Bank. “The market will likely need to price out a smidgen of nearer-term rate hikes due to this rule change,” said Toronto-based Lascelles, who predicts the central bank will start raising rates in the fourth quarter.

Spreads, Offerings

Elsewhere in Canada’s credit markets, the extra yield investors demand to own corporate bonds instead of government debt narrowed one basis point to 122 basis points, or 1.22 percentage points, according to Bank of America Merrill Lynch’s Canadian Corporate Index. Overall yields fell to 3.773 percent from 3.795 percent on Feb. 12.

Canada will auction C$1.5 billion ($1.44 billion) of 30- year bonds today, according to a statement on the Bank of Canada’s Web site. The 4 percent securities mature in June 2041. Canada Housing Trust, the financing arm of the nation’s housing agency, said yesterday it will sell at least C$1.08 billion in fixed and floating-rate debt to finance mortgages.

The yield on the September 2010 bankers’ acceptances futures contract, a barometer for expectations of interest rates at that time, fell to 0.88 percent yesterday, the lowest since Feb. 9, indicating traders are paring bets on rate increases.

Longworth Speech

Bank of Canada Deputy Governor David Longworth will give a speech in Toronto, with the text available at 12:20 p.m. local time. Statistics Canada reports wholesale sales at 8:30 a.m., and the median estimate of economists surveyed by Bloomberg is for a 0.8 percent increase for December. Canadian home prices and resales will increase to records this year boosted by low borrowing costs, then decline in 2011, the Canadian Real Estate Association said in a report last week. The average rate on a one-year mortgage was 3.6 percent last week, compared with 5.39 percent on a five-year loan, close to the widest spread since 2004, Bloomberg data show. The one- year rate is the lowest since at least the start of 1993. Variable mortgage rates are at the lowest since at least 1990, with the prime rate they are tied to at 2.25 percent.“We’ve had a period in which variable-rate mortgages are at extremely low levels and are likely to stay at historically low levels for the coming year or two,” said Avery Shenfeld, chief economist at CIBC World Markets in Toronto. “It’s prudent to ensure that people taking on those mortgages will be in a position to pay them as rates rise.”

Bubble Debate

Record Canadian home prices fed by low mortgage rates led Stephen Jarislowsky, 84, chairman of Montreal-based investment adviser Jarislowsky Fraser Ltd., to say last week he’s “convinced” there’s a bubble in the nation’s housing market.

Bank of Canada Adviser David Wolf said in a January speech the bank is monitoring home prices, and that raising rates to slow them would crimp the recovery as the economy emerges from recession. While Flaherty reiterated that the market isn’t overheating, he said yesterday that starting April 19, buyers will have to meet standards for five-year, fixed-rate mortgages even if they opt for variable rates.

Canadian bonds due in one to three years have returned 0.06 percent this month, after gaining 0.67 percent in January, according to Bank of America Merrill Lynch indexes. That compares with losses of 0.29 percent on average this month for corporate bonds, which gained 2.37 percent in January, the indexes show.

Canada Housing Trust’s offering consists of a C$580 million reopening of 3.75 percent notes due in March 2020 that may price to yield 35.5 basis points more than federal government bonds of similar maturity. A reopening of at least C$500 million of the 0.58714 percent issue maturing in March 2015 may price at about C$100.25. The deal will be priced today. Both maturities were first sold in November.

With assistance from Chris Fournier in Montreal. Editors: Paul Badertscher, Andrew Barden

To contact the reporter on this story: Greg Quinn in Ottawa at +1-613-667-4805 or gquinn1@bloomberg.net.

To contact the editors responsible for this story: Christopher Wellisz at +1-202-624-1862 or cwellisz@bloomberg.net; David Scanlan at +1-416-203-5722 or dscanlan@bloomberg.net.

Mortgage changes target ‘reckless’ buyers: Flaherty

New mortgage rules

Paul Vieira, Financial Post with files from Garry Marr in Toronto

OTTAWA -- Jim Flaherty, the Finance Minister, says he is targeting "reckless" speculators who buy up multiple condominium units in the country's biggest cities with new rules introduced yesterday that will make it tougher for Canadians to get a mortgage.

The reforms were submitted after nearly a week of non-stop warnings from people ranging from a prominent money manager to former Bank of Canada governor David Dodge about an impending housing bubble. The concern was that the real estate market was getting ahead of itself, as buyers took advantage of record-low interest rates to acquire homes.

In introducing the tougher mortgage requirements, Mr. Flaherty said there was "no clear evidence" of a real estate bubble in this country, the kind of which sideswiped the U.S. economy and sparked the worldwide financial crisis.

"The measures will not affect the ability of a Canadian family to buy a house. It will affect those who are speculating," the Finance Minister said. "What we're getting at is the speculation in multiple condominium units in particular which we see in Vancouver, Montreal, Toronto and in some other places in Canada."

Home builders were taken aback by the measures introduced, saying they could result in "severe implications" for the condo and housing markets.

The changes, scheduled to come into effect on April 19, will make it harder for first-time buyers to qualify for government-backed mortgage insurance -- from either Crown agency Canada Mortgage and Housing Corp. or private-sector providers -- which is required if down payments are less than 20% of the property's value.

Borrowers now have to meet standards for a five-year fixed-rate mortgage, even if the buyer wants a shorter-term, variable rate product.

Some analysts, however, indicate the shift is not as big as it appears. Eric Lascelles, chief economist at TD Securities, said the revamped rule likely means the minimum household income cutoff for Canadian mortgage applicants would be about $5,000 to $8,000 higher.

Further, Ottawa has raised the minimum down payment on rental income properties -- where the buyer does not plan to live -- to 20% from 5%.

Mr. Flaherty said one goal is to protect Canadians from overextending themselves financially as interest rates are likely to climb from present historic lows. The other, he added, is to root out speculation in real estate, which he suggested was happening with greater frequency based on prebudget consultations.

"I don't know how that serves the Canadian people and why the government should insure mortgages like that," Mr. Flaherty said. "People can do it with their own money and if they can find someone who will lend them the money on an uninsured basis. But I just don't want CMHC and the Canadian people to be in the business of guaranteeing speculative mortgages."

Derek Holt, vice-president of economics at Scotia Capital, said the condo market could feel the pinch. Industry experts estimate roughly 40% of condo purchases are investment-related, with buyers looking to rent the units for income and perhaps sell them at a later date at a higher price.

"Evidence of the greatest speculative excess has been in the condo segment in the past few years," Mr. Holt said.

Others weren't so sure. Ben Myers, executive vice-president of Urbanation, a Toronto firm that tracks the city's condo market, said the move would have "very little" impact because most condo builders already require down payments of 15% to 20% for their units once they are occupied.

Still, home builders were shocked by Mr. Flaherty's contention that the real estate market was at the mercy of speculators.

"I don't know if they have thought this through as to who a speculator is," said Peter Simpson, chief executive of the Greater Vancouver Home Builders Association. "Just because someone buys a second property doesn't make them a speculator."

He added that these new regulations, combined with the coming harmonized sales tax in British Columbia on July 1, could lead to a "perfect storm" that hits the province's housing market.

The chief operating officer of the Canadian Home Builders Association, John Kenward, said the rule aimed at condo speculation came as a surprise to his members.

"It had not been the subject of conversation [between the government] and the industry," said Mr. Kenward. "It could have serious implications going forward. We don't know why it was introduced."

Overall, Mr. Lascelles said, the economic implications from the proposed moves "are unlikely to be severe, and we expect the housing market to slow its ascent without crashing back down to Earth."

SUMMARY OF CHANGES

*Borrowers must qualify for a five-year fixed rate mortgage instead of a three-year loan when calculating gross debt service and total debt service ratios.

*Refinancing will be capped at 90% for government-backed high-ratio mortgages versus 90% previously.

*A down payment of 20%, instead of 5%, will be required for government-backed mortgage insurance on non-owner-occupied properties purchased for speculation.

WHAT CHANGES MEAN FOR A $337,000 HOUSE

*The difference between a three-year mortgage rate and a five-year mortgage rate is currently in the range of about 50-100 basis points. The average house in Canada costs $337,000, which means that this change will require that mortgage applicants have the capacity to absorb an extra $2,500 per year in mortgage costs than in the past, according to calculations by Eric Lascelles at TD Securities. Effectively, the minimum household income cut-off for Canadian mortgage applicants is now about $5,000-8,000 higher than it was previously, to fulfill the new rule. http://www.financialpost.com/news-sectors/economy/story.html?id=2569008

Financial Post

Government of Canada Takes Action to Strengthen Housing Financing

The Honourable Jim Flaherty, Minister of Finance, today announced a number of measured steps to support the long-term stability of Canada's housing market and continue to encourage home ownership for Canadians.

"Canada's housing market is healthy, stable and supported by our country's solid economic fundamentals," said Minister Flaherty. "However, a key lesson of the global financial crisis is that early policy action can help prevent negative trends from developing."

The Government will therefore adjust the rules for government-backed insured mortgages as follows:

· Require that all borrowers meet the standards for a five-year fixed rate mortgage even if they choose a mortgage with a lower interest rate and shorter term. This initiative will help Canadians prepare for higher interest rates in the future.

· Lower the maximum amount Canadians can withdraw in refinancing their mortgages to 90 per cent from 95 per cent of the value of their homes. This will help ensure home ownership is a more effective way to save.

· Require a minimum down payment of 20 per cent for government-backed mortgage insurance on non-owner-occupied properties purchased for speculation.

"There's no clear evidence of a housing bubble, but we're taking proactive, prudent and cautious steps today to help prevent one. Our Government is acting to help prevent Canadian households from getting overextended, and acting to help prevent some lenders from facilitating it," said Minister Flaherty. "If some lenders aren't willing to act themselves, we will act. These measures demonstrate the Government is committed to taking action when necessary to support the long-term stability of a sector that is so vital to our economy and the financial well-being of Canadian families."

These adjustments to the mortgage insurance guarantee framework are intended to come into force on April 19, 2010.

Here is the link for this article on the Dept of Finance website http://www.fin.gc.ca/n10/10-011-eng.asp

Français

Benjamin Tal Economic Buzz: Winter 2010

Financial markets tend to get edgy sitting still, but Bank of Canada Governor Carney is a man in no hurry to act. Drawing a parallel with Australia, where a rate hike came earlier than expected, investors had been pushing up Canadian short-term yields in anticipation that Canada would also raise rates. Of course, when fixed income investors start to expect an earlier rate hike, that exerts upward pressure on the dollar which makes such a move less likely. Therefore, the Bank's message to those expecting an early rate hike in Canada was "not so fast". Clearly, the Bank takes currency impacts on growth and inflation very seriously. After citing a list of fresh positives—including better-than-expected global growth and improvements in financial market conditions—the Bank asserted that these will be "more than offset" by the drag from persistent Canadian dollar strength.

The Bank reinforced its pledge to keep rates on hold.

So, in its most recent interest rate announcement, the Bank reinforced its pledge to keep rates on hold at least until after June of 2010. Since the timing of rate moves is geared to the timing of getting inflation back to the 2% target, if anything, the Bank may even add a few months to when it anticipates pulling the trigger on the first rate hike. While CIBC World Markets is roughly in line with the Bank of Canada's growth projection for the balance of this year, we're not as optimistic about Canada's ability to shrug off a likely slowing in US growth in 2010. If we're right, it will take even longer than the Bank's forecast to get back to full employment and target inflation. Therefore, if the US keeps rates on hold throughout 2010, it'll be difficult for the Bank of Canada to move first, as long as the Canadian dollar is near parity.

For Registered FirstLine Brokers only, do not distribute. The information and any statistical data contained herein were obtained from sources that we believe to be reliable, but we do not represent that they are accurate or complete, and they should not be relied upon as such. All estimates and opinions expressed herein constitute judgments as of the date of this report and are subject to change without notice. FirstLine Mortgages is a division of CIBC Mortgages Inc. ® FirstLine is a registered trademark of CIBC Mortgages Inc.

English

Les analyses é conomiques de Benjamin Tal : Automne 2010

Les marchés financiers ont tendance à être gagnés par la nervosité quand ils font du surplace, mais pour le gouverneur de la Banque du Canada, M. Carney, rien ne presse. S'appuyant sur l'exemple de l'Australie, où les taux ont été relevés plus tôt que prévu, les investisseurs avaient poussé les taux à court terme à la hausse sur le marché canadien, misant sur une hausse prochaine des taux. Bien entendu, lorsque les marchés des titres à revenu fixe commencent à prévoir un prochain relèvement des taux, cela crée une pression à la hausse sur le dollar, ce qui réduit la probabilité d'un tel relèvement. Par conséquent, le message de la Banque du Canada à ceux qui s'attendent à la voir relever les taux d'intérêt prochainement est : « Pas si vite. ». Bien entendu, la Banque prend très au sérieux l'incidence de la monnaie sur la croissance et l'inflation. Après avoir mentionné plusieurs récentes bonnes nouvelles (notamment une croissance mondiale meilleure que prévu et une amélioration des conditions des marchés financiers), la Banque a affirmé que ces données encourageantes seront « plus que neutralisées » par la vigueur persistante du dollar canadien.

La Banque réaffirme son engagement à maintenir les taux

Dans son dernier communiqué sur les taux d'inté rêt, la Banque du Canada a ré affirmé son engagement à maintenir les taux jusqu'à au moins juin 2010. La dé cision de relever les taux é tant intimement lié e à la dé cision de ramener l'inflation au taux cible de 2 %, la Banque pourrait même attendre quelques mois supplé mentaires avant de procé der à son premier relèvement de taux. Dans les grandes lignes, Marchés mondiaux CIBC est d'accord avec les projections de la Banque du Canada sur la croissance pour le reste de 2010, mais nous ne sommes pas aussi optimistes qu'elle pour ce qui est de la capacité du Canada à se protéger d'un probable ralentissement de l'économie américaine en 2010. Si nos prévisions sont justes, il faudra plus de temps que ne le prévoit la Banque pour renouer avec le plein emploi et le taux d'inflation cible. C'est pourquoi, si les états-Unis maintiennent leurs taux tout au long de 2010, il sera difficile pour la Banque du Canada de relever ses taux la première, étant donné que le huard est proche de la parité avec le billet vert.

Réservé uniquement aux courtiers FirstLine inscrits. Prière de ne pas diffuser. Les renseignements et les données statistiques du présent document proviennent de sources que nous estimons fiables, mais nous ne pouvons en garantir ni l'exactitude, ni l'exhaustivité, ni la fiabilité. Toutes les estimations et opinions qui y sont formulées constituent des jugements en date du présent rapport et sont sous réserve de modifications sans préavis. Hypothèques FirstLine est une division d'Hypothèques CIBC inc. MD FirstLine est une marque déposée d'Hypothèques CIBC inc.

CREA forecasts record home sales in 2010

By Garry Marr, Financial PostFebruary 8, 2010 1:25 PM

The Canadian Real Estate Association now says 2010 will be a record year for home sales.

The Ottawa-based group, which represents about 100 boards across the country, said sales this year will climb 13.3% from 2009. The market will also surpass the 2007 peak by 1.2%.

“Low interest rates are expected to boost housing demand in the first half of the year, resulting in strong annual sales growth in nearly all provinces in 2010, led by British Columbia and Ontario,” said CREA in a release.

Part of the reason for the surge in activity in the first half of 2010 is being attributed to the harmonization sales tax that comes into effect in Ontario and British Columbia on July 1. Consumers are expected to try and beat that deadline.

However, by 2011, rising interest rates are forecast to put a dent in the housing market. CREA sales will drop by 7.1% in 2011.

“Although interest rates are expected to rise, they will still be low enough to keep affordability within reach for many homebuyers requiring mortgage financing, and support overall housing demand,” said Dale Ripplinger, president of CREA.

Prices will rise by 5.4% in 2010, bringing the average price to $337,500. The national average price continues to be skewed by strong markets in B.C. and Ontario which has the two most expensive cities in the country to live in. By 2011, the national average price will drop by 1.5%.

“Improved financial market stability and recovering global economic growth mean that home sales activity in 2010 is unlikely to repeat the dive it experienced in late 2008 and early 2009,” said Gregory Klump. chief economist at CREA. “A downward trend in national sales activity combined with an increase in listings will result in a more balanced market. Although builders are understandably more upbeat than they were during the depth of the recession, speculative building will likely continue to be held in check. As a result, while the real estate market will become more balanced, Canada will continue to avoid the massive realignment in housing supply and demand experienced in the U.S.”

© Copyright (c) National Post

Banks urge Ottawa to tighten mortgage rules

Boyd Erman and Tara Perkins

From Saturday's Globe and Mail Published on Saturday, Feb. 06, 2010 12:00AM EST Last updated on Monday, Feb. 08, 2010 12:41PM EST

Canada's top bankers are pushing the government to clamp down on the mortgage market to cool off the rise in home prices.

The heads of the country's six largest banks have privately told policy makers that they fear the wide-ranging economic fallout of a U.S. style binge-and-collapse in housing. To head off any chance of that happening, they are willing to accept tighter rules on mortgages that would slow the real estate market, even though it would mean forgoing some short-term profits from giving out ever bigger mortgages as home prices jump.

The chief executives of the Big Six made their point last November, when they met with Bank of Canada Governor Mark Carney. The country's top commercial bankers, who between them control more than three-quarters of the country's $940-billion mortgage market, said then that they wanted the government to look at far-reaching options, such as raising the minimum down payment to as much as 10 per cent and shortening the maximum amortization period to 30 years.

Mr. Carney didn't disagree, according to people familiar with the November talks.

"We're talking about being pre-emptive here," said a senior bank executive who spoke on condition of anonymity. "We're not in a bubble yet, or a credit crisis."

Changing the rules would be a relatively simple, sensible, proactive thing to do, said a top executive at a second major bank.

However, the real key is convincing Finance Minister Jim Flaherty.

The government, not the central bank, sets regulations on the length of amortizations and the size of down payments, and bankers realize that no politician will score points with voters by making it more difficult for Canadians to buy homes.

Mr. Flaherty publicly mused in December about acting if a bubble appeared "in the future," but with house prices rocketing higher in recent months, those pushing for change don't want him to wait.

The average resale price of a home in Canada was $337,410 in December, according to data from the Canadian Real Estate Association. That was 19 per cent higher than in December, 2008, and sales activity has also increased sharply.

With more signs each month that gains in house prices are accelerating, there are indications the government is considering a move.

In recent months, the Department of Finance has canvassed the mortgage industry for ideas on whether tighter mortgage rules are needed, and if so, what would be appropriate. Government officials have held a number of meetings and discussions on the topic in the last two months.

That has led to pushback from some in the mortgage industry who argue that stiffer amortization and down payment rules for all buyers could undermine the housing sector and hurt Canadians by causing the values of their homes to drop.

Some of those opponents of big changes have suggested to the government that it consider more targeted rule changes, if Ottawa feels that something needs to be done.

That could mean only tightening up the requirements for people with weak credit scores, or for people who are buying an investment property rather than a home to live in.

Mr. Flaherty will not say whether he will act. He reiterated his view there is "no clear evidence now of a housing bubble in Canada."

That view is shared by Canada Mortgage and Housing Corp., which said in an e-mailed statement that while some analysts and commentators say there's a house price bubble forming, "it is not clear that this perspective is supported by the facts."

Nevertheless, Mr. Flaherty is "actively monitoring the housing market and a variety of issues in that context," the minister said in an e-mailed response to questions.

"I have policy tools available to take action to counter negative trends. I have used some of them before and can use some or all of them again."

One of the most powerful tools would be what the banks suggested: tightening the criteria for getting a home loan that's insured by one of the country's mortgage insurers - a sector dominated by government-owned CMHC.

The federal government already did so in 2008, eliminating no-down-payment mortgages.

In almost all cases, a home buyer in Canada who is placing a down payment of less than 20 per cent of the home price must have the mortgage insured.

Getting mortgage insurance from CMHC or one of its competitors now requires a 5 per cent down payment, and the maximum amortization period is 35 years.

CMHC sells an estimated 75 per cent of mortgage insurance in Canada.

Thanks to rising home prices and surging sales, CMHC has about $480-billion of insurance in force.

As a result, the company has become "the rule maker, in the mortgage market, said Peter Routledge, an analyst at Moody's Investors Service who recently wrote a report suggesting the government look at shortening amortizations and raising down payments to protect the banking system.

"To the extent that the rule makers in the mortgage industry inject a little conservatism, I don't think the banks would look at that as a bad thing," Mr. Routledge said.

In fact, that's exactly what the bank CEOs urged when they gathered on Nov. 25 with Mr. Carney in Toronto's financial district, where the central bank has an office.

While some of the bank executives were more vocal than others, none disputed the idea that it would be wise for Ottawa to take action, according to people familiar with the discussions.

Higher required down payments and shorter amortizations would curb housing prices by cutting the amount most Canadians could bid for a house.

Such changes would also mean smaller mortgages and lower interest payments over the life of the loan - in other words, less money for the banks.

Canadian mortgages account for 40 per cent of the loans of the six largest banks, and comprise the biggest chunk of their portfolios.

The bankers' effort is all the more notable given the unique structure of the Canadian mortgage business. Banks get the profits from mortgages with their decades of interest payments, but have little risk of direct loss because of mortgage insurance.

Consumers cover the premiums and, because most mortgage insurance is underwritten by CMHC, the federal government ultimately takes the risk.

It's not the potential of big losses on mortgages that scares banks, says Mr. Routledge of Moody's. But if there were a spike in foreclosures in Canada, as has happened in the United States, consumers would likely struggle to make payments on other loans that aren't insured, such as credit card debt. Such a situation would also likely cause a big economic slowdown.

"Imagine instead of a few hundred people in Toronto in any particular month being foreclosed upon, it's a few thousand," said Mr. Routledge.

"The impact on the broader economy and the overall level of consumer confidence is significant in the U.S."

Mr. Carney, who said again this week that he too believes there's no bubble, has raised concerns about the level of debt that consumers are taking on.

He has said that interest rates are likely to rise in coming years, and warned that banks should not be lulled into complacency by the fact that mortgages are insured.

But a number of voices in the mortgage industry caution that a dramatic change to the rules could put too much of a damper on the market, and possibly be more damaging to the economy than the problem Ottawa is trying to avoid.

Much of the population's net worth is tied up in their houses, and the concern is that if tighter rules caused home prices to fall, consumers would rein in their spending.

"Some people talk about 10 per cent down payments, and we would have serious concerns with that," said Jim Murphy, head of the Canadian Association of Accredited Mortgage Professionals.

CMHC has already increased its vigilance when it comes to approving insurance, said mortgage planner Robert McLister.

"These days, if a deal remotely smells funny, or an appraisal is slightly unrealistic, it's shot down without hesitation. There is such an aversion to defaults in our market."

Should the government decline to move, the banks could always try to tighten lending standards on their own. But that might not have the desired impact because are many other providers of mortgages.

"Even though we're in an oligopoly, every mortgage has a dozen bidders on it," said Mr. Routledge.

***

The tale of Canada's housing market

Residential mortgage debt as a percentage of personal disposable income has been rising since the early 1980s.

But thanks to lower mortgage rates, the debt service ratio - a measure of how well Canadians can afford their monthly interest payments - was trending downwards until a couple years ago.

And since the banks losses on mortgages in Canada are so small as to be insignificant, they have steadily continued to dole out more in mortgages each and every year.

Meanwhile, the country enjoyed unusually strong growth in home prices this decade. After a brief drop in late 2008, house prices resumed their upward trajectory, catching bankers and economists off guard and separating Canada's housing market greatly from the experience in the U.S.

Tara Perkins