Financial Insights is now

Hello again

I’m temporarily suspending the redirect to the new site in order to make this post.  I want to remind all readers that new posts are being made over at The Economic Analyst.

I also want to remind my email subscribers that your subscription has been ported over to the new site.  When you receive an email from indicating that a new post has been made, this is NOT spam.  This is the new email subscription feature.  Although it indicates my email address as the sender, it is actually sent from the site itself.

If you would like to be removed from the email list, please email me at the directly.



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Very important message to my readers

After this weekend, this site will be shut down with all traffic re-routed to the new website homepage:

There will be a post later today over at the new site, but this will be the final post on this site.  The new site has some very neat features that I think will prove to be very beneficial to my readers.  The one major function that has not yet been implemented, but will be soon, is the automatic email subscription feature.

To the hundreds of email subscribers, bear with me while this feature is added.  You will automatically be signed up with the new site to receive email updates, but that feature may not be available for another week or so.

There are a few minor bugs to be worked out, so please be patient.  If you encounter any sort of a problem with the new site, can you please post it in the comment section of the latest post so that I can make note of it and forward it on to the developer?

For those interested in helping to promote the site, there is a facebook page associated with it, which you can access by clicking on the facebook icon at the bottom of the home page.  It would be great if you ‘liked’ it to get the word out.  You can also get automatic updates via twitter.

Thank you all for your faithful readership.  I look forward to more great dialogue on the new site.

As a final plug for the developer, the new site was designed by Scratch Design.  I can’t say enough good things about Mike and his staff.




Inflation tops expectations… a rate hike now all but assured?; Will Canada be ‘going dutch’?

Inflation tops expectations

Stats Canada released their March inflation readings which surprised significantly to the high side.  While economists were widely expecting a 2.8% year-over-year increase, the actual increase registered at 3.3%, the highest since mid 2008.

Perhaps more significantly, the increase was widespread and not largely concentrated in the energy component of the Consumer Price Index.

Among the main contributors to the jump in inflation were:

• Gasoline (+18.9%)
• Fresh vegetables (+18.6%)
• Passenger vehicle insurance premiums (+4.7%)
• Food purchased from restaurants (+2.7%)
• Fuel oil and other fuels (+31.3%)

The components that experienced the strongest year-over-year decline were:

• Mortgage interest cost (-2.2%)
• Computer equipment and supplies (-9.9%)
• Video equipment (-10.4%)
• Fresh fruit (-3.1%)
• Natural gas (-2.0%)

The increase was widespread across the country, with Nova Scotia (+3.9%) and Ontario (+3.6%) leading the pack.

It’s worth recalling that Mark Carney recently stated that the Bank of Canada feels that current inflationary pressures represent short term volatility.  Yet even the Bank must have been surprised by this CPI reading given that they warned that inflation “could reach 3%” by Q2 2011.  We’re well above that currently.

The implications are fairly clear.  The Bank of Canada has a stated mandate to keep inflation, “near 2 per cent — the mid-point of a 1 to 3 per cent target range.”  With inflation now well above the three percent upper boundary, Carney will no doubt be feeling increasing pressure to continue raising rates with a rate hike now very likely in July unless this reading proves to be a one-time spike.

It also bears watching the actions of the bond market today.  It’s very likely that Government of Canada bonds will be under selling pressure, meaning higher interest rates.  Keep a close eye on the 5 year BoC bond, upon which fixed interest rates are set.  As I’ve noted before, this is the key interest rate that now determines the stability of the housing market.

Will Canada be ‘going Dutch’?

It’s worth recalling the recent Macleans article examining the current commodities boom:

Two charts you need to see about commodities and the housing market

And here is that interesting chart relating to commodities:

It’s also worth considering how the recent moves by the People’s Bank of China to rein in inflation via rate hikes and increased reserve requirements will have on commodity demand.

With the US now likely heading back towards near-recession levels of growth later this year, QE2 set to end this summer (likely only temporarily), and with global growth still tepid and set to slow amid supply chain disruptions following the Japanese earthquake and tsunami, the continued bull market in commodities is far from assured.

What might it all mean for Canada if the commodities bull market comes to an abrupt end?  An interesting article in the Globe and Mail pondered this very question.  The article highlights a recent research report from MRB Partners, a Montreal-based investment research company.  (Hat tip to JD for emailing this to me).

When commodities boom ends, will Canada be going Dutch?

Some key quotes:

“Once the current commodity boom ends the loonie will plunge, the economy will stumble badly, wages will fall and complacent policy makers will find out what happens when there isn’t enough growth to compensate for a lack of fiscal prudence.”

“We are constructive about the prospects for the economy and maintain a positive cyclical outlook on Canadian risk assets…Nonetheless, the euphoria needs to be kept in check. Oil and rocks have masked substantial and rapidly growing imbalances that will prove devastating if not corrected before the next global economic recession….(Investors) should be careful not to dismiss these risks.”

“Ultimately, the Canadian economy will fall of its own weight.”

“Energy and agriculture now account for 34 per cent of exports, up from 13 per cent in the late 1990s. Shipments of consumer goods have plummeted by nearly half, to 17 per cent.”

MRB is not advising clients to sell Canada just yet, even though it regards Canadian bonds, stocks and other assets as overvalued. It does warn that a passive, long-term buy-and-hold strategy is a bad idea. “In fact, investors should progressively lighten their holdings as the commodity boom rolls on, especially once global leading economic indicators weaken materially.”

There’s never anything wrong with exploring the potential risks to the Canadian economy.  This report aligns nicely with my own perspective on Canadian assets.  I’m not prepared to sell them yet, but I am watching leading global economic indicators (such as those published by the OECD) and keeping a close eye on China for any indication that a hard landing is shaping up.

Ultimately the growth prospects for Canada are excellent in the long term.  That doesn’t mean that we won’t experience some major headwinds along the way.  More importantly, the Canadian growth story is certainly not new and is far from a secret (as evidenced by the $4.9 billion in Canadian stock purchases made by foreigners in February).  This raises the risk that long-term growth prospects are already reflected in current stock valuations, which are far from cheap.  As discussed before, when the consensus is bullish on a particular asset, it’s the best time to start considering other options that are not as universally loved.




Stocks sell off as S&P cuts US outlook; Does a drop in foreign demand for Canadian bonds signal rising fixed interest rates?; Greek restructuring would be “catastrophic”

Stocks sell off as S&P cuts US outlook

Big news of the day is the downgrade in the US outlook by rating giant Standard and Poor’s.  There can’t possibly be too many analysts who don’t see storm clouds on the horizon for the US  considering their massive and growing debt levels, huge unfunded liabilities, and almost complete lack of political will to deal with these problems.  Yet the market seems to have received this news as some sort of new and shocking revelation.

From S&P:

“Because the U.S. has, relative to its ‘AAA’ peers, what we consider to be very large budget deficits and rising government indebtedness and the path to addressing these is not clear to us, we have revised our outlook on the long-term rating to negative from stable.”

Perhaps the more significant bit of news is this statement from S&P:

“The negative outlook on our rating on the U.S. sovereign signals that we believe there is at least a one-in-three likelihood that we could lower our long-term rating on the U.S. within two years.”

More than the downgrade itself, this statement is likely what has the markets jittery.  A downgrade of the United States’ credit rating would have significant repercussions on the treasury market and interest rates.  Many money market funds and other mutual funds have stated limits in terms of the percentage of their holdings held in AAA rated sovereign bonds.  Should the US lose that hallowed status, it would result in the forced selling of treasuries by many funds.  It would also eliminate a portion of the demand both domestically and abroad.  The end result would be higher interest rates on US bonds which would be passed on to consumers in the form of higher mortgage rates.

Foreign demand for Canadian bonds drops

Stats Canada today released the international transaction in securities for February 2011.  Two trends are worth noting:

1)  Foreigners were net sellers of Canadian bonds in February for the first time since late 2008!  Foreigners sold $5.0 billion in federal bonds.

One has to wonder if this net selling in bonds was partly the cause of the jump in interest rates on the 5 year GoC bond in February.

Demand for the 5 year Government of Canada bond is extremely important as it determines interest rates on 5 year fixed mortgages.  Perhaps more importantly, it helps to set the qualifying rate which is now used to assess the maximum mortgage amount an applicant qualifies for when seeking a variable rate mortgage.  This is why I recently suggested that because because of these new rule changes, the housing market is increasingly at the mercy of the bond market (over which the Bank of Canada has little control).

While I suspect that this reading is not the start of a new trend, particularly in light of the S&P announcement today which will drive more capital into the true AAA countries, it certainly highlights how fickle the bond market can be, and in turn, how at risk the housing market is to swings in mood by bond investors.

2)  The second trend worth noting is the rise in Canadian stock purchases by foreigners.  Total purchases amounted to $4.9 billion, the highest since May of last year.  This has no doubt helped buoy the TSX.  The ongoing rise in commodity prices no doubt led many investors to seek out Canadian resource companiesIt’s getting increasingly difficult to find bargain stocks on the TSX, particularly in the more popular resource space, though there are still a handful of well priced resource companies with strong balance sheets and reasonable valuations.

Greek restructuring would be “Catastrophic”

The near-certainty of a Greek debt restructuring has analysts chiming in on the potential implications.  For those unfamiliar with the term, a restructuring typically involves the creditors of a nation accepting less than what they were promised to be repaid.  A simple example of a restructuring is if I owed you $100 but couldn’t afford to repay it.  Instead I offered you $80 (with the alternative being that I declare bankruptcy and you get nothing).  That’s the idea.

However, as I suggested in an earlier post, restructuring has the potential to create a European financial crisis as many of the big banks are holding Greek sovereign debt.  If they suddenly face a loss of their capital, they may be in trouble.

Now the Bank of Greece Governor George Provopoulos has suggested that such a restructuring is not needed (yeah right!) and would be catastrophic.

From the Globe and Mail:

A Greek debt restructuring is not needed and would be catastrophic for the country, hitting bank and pension fund assets and closing off access to capital markets, the head of its central bank said on Monday.

“The Bank of Greece has explained with clarity since last October that such a (restructuring) option is not necessary, nor desirable,” Bank of Greece Governor George Provopoulos said in a report to shareholders.

“It would have catastrophic consequences.”

A finance ministry official earlier denied a Greek media report the country had already requested restructuring talks with the EU and IMF.

Yet another sign that Europe is falling apart at the seams under the weight of the debt woes in its peripheral countries.  The threat of a break up of the monetary union cannot be ruled out, particularly after the results of the Finnish election over the weekend saw the True Finns party, which ran on an openly anti-bailout platform, garner 19% of the votes, a 15% jump over the last election.  Mike Shedlock made an interesting post on this.



Posted in Economy, Real Estate | Tagged , , , , , | 20 Comments

How important is construction to economic growth and employment across Canada?: Part 2

In part 1 of this series we looked at construction employment as a percentage of total employment, and residential construction as a percent of GDP for all provinces from BC east to Ontario.

If you haven’t read that post, make sure you do as it also explains how falling house prices tend to dampen demand for housing, a strange and seemingly counter-intuitive phenomenon.  The reality is that both of the metrics we’ve examined are well above their long-term trend lines in all provinces examined in part 1.  The implication is that if there is a significant correction in house prices, history tells us that housing starts fall and construction employment comes under pressure.  In the absence of significant government stimulus measures like infrastructure projects, GDP and employment face some headwinds on this basis alone.

By these measures, the economies of provinces from Ontario west are at risk of facing economic headwinds in the increasingly likely event of a housing correction.  What is not measurable however, is the level to which consumers might retrench and slow their spending amid a housing correction.  The housing wealth effect is a well-studied phenomenon.  The rapid expansion in home equity withdrawals via HELOCs (the fastest growing form of consumer debt) would certainly come under pressure.  The economic impact of a significant housing correction would be much broader and more significant that the two measures we’re examining in this series.

With all that said, let’s have a look at all provinces from Quebec east to Newfoundland.


New Brunswick

Nova Scotia

Prince Edward Island


As was the case when we compared the growth in provincial per capita GDP and house prices (part 1 and part 2), it appears that the further east one travels, the less risk is posed by widespread housing correction.  Certainly Quebec seems quite vulnerable as does New Brunswick and Nova Scotia, but it bears remembering how far their house prices have strayed from underlying fundamentals in discussing any economic risks posed by a realignment in house prices.  In the case of Nova Scotia and New Brunswick, only a mild overvaluation existed suggesting that the risk of a significant house price correction is more muted in these provinces than some of their bubblier neighbours.  I wasn’t able to obtain Quebec resale data and was unable to show how far (if at all) their house prices had strayed from the underlying growth in their economy.  I since have obtained the data, but I’m trying to understand how to use it for long-term comparisons as they changed the way they report their numbers in 2002, making comparisons between periods difficult.  I’ll see what I can do there.

Cheers for now


Posted in Economy, Real Estate | Tagged , , , , , , , , , | 6 Comments

China’s property bubble at risk?; What is driving oil prices?; Greek bond yields explode as Germany states support for restructuring

Hat tip to the fine folks over at MacroBusiness Australia for these links…

China property bubble at risk?

Moody’s Investor Services downgraded China’s property sector to negative from stable citing deteriorating credit conditions over the next 12-18 months.

This comes as Chinese officials have sought to halt the rise in house values through rising interest rates and tightening bank capital requirements in an attempt to curb credit demand.  The report also indicates that falling sales and a correction in house prices are widely expected.

It appears that the Chinese government is indeed in a bind.  The average house price has pushed well beyond the capacity of the average citizen to afford it.  Yet in their attempt to rein in construction and speculation, they risk slowing GDP growth.  Furthermore, while actively attempting to gently deflate their housing market, the wealth of many speculators is put at risk.

We also found out yesterday just how potentially successful these attempts to control rising property values have been as new house prices in Beijing fell a stunning 29% month-over-month in March following a 70% slump in new house sales in February.

From a Canadian perspective, it is not yet clear whether this news is positive or negative for the Canadian real estate market, particularly those running on fumes and relying extensively on foreign inflows to sustain prices.  The tightening regulatory environment may force capital offshore and potentially into real estate in sought-after locations.  Conversely, a rapid unwinding of property prices in China will also sap wealth from those same investors looking to park their funds in Canadian real estate.

Just how this will play out remains to be seen, though I expect that it will be spun from two decisively different angles.

What is driving oil prices?

As US inflation jumped 0.5% in March on the back of rising energy, it’s worth looking at exactly what is driving the rise in oil prices.  I’ve discussed before that inflation as it is currently (and arguably erroneously) calculated can be affected by numerous other factors beyond the true lasting inflation caused by the expansion in the money supply relative to goods.  In a fascinating graph by David Wilson of Bloomberg (highlighted over at, non-commercial net positions in oil futures were compared against the rise in oil prices…

You’ll note that the recent boom in oil prices coincides with a rapid rise in net positions in oil futures.  Simply put, expectations of future oil price movements are at least somewhat responsible for recent oil price movements.

When large net long positions exist in the futures market of any commodity, it can be a sign of heightened price volatility and downside price risk.  These positions are stated in the weekly Commitment of Traders report issues by the CFTC.  In this case, the most recent surge is likely the result of expected ongoing social and political unrest in major oil producing nations.  While it would be a given that a rising threat of disruption in Saudi oil output (currently a very low risk) due to unrest would send crude skywards, the surge in net long positions seems to suggest that significant ongoing tensions are being priced into the oil market.  Any ‘disappointment’ to this view, as in reduced levels of social unrest, may well set oil prices up for a nasty fall.  Good for the consumer…..not good for the energy-heavy TSX.

Greek bond yields explode

In yet more sign that European debt woes are intensifying, Greek bond spreads over German bunds reached an unprecedented 1000 basis points today (10%) amid news that Germany would back a voluntary restructuring of Greek debt.

Greek 10 year bond yields have recently passed 13% and continue to trend higher as creditors are increasingly doubtful of Greek’s ability to repay its debt.

Should the restructuring proposal gain traction (and it’s hard to see how it won’t…they have few options remaining), the next big question is which European banks are most exposed to Greek debt and how will this affect their financial stability?



Posted in Economy | Tagged , , , , , , , , | 19 Comments

How important is construction to economic growth and employment across Canada?: Part 1

In a previous series we examined house prices relative to GDP growth across Canada.  That data seems to suggest that a significant level of overvaluation exists in many provinces from Ontario west (Quebec data was absent in that series).  Hopefully next week I’ll be able to post about the growth in house prices relative to incomes across the provinces.  From the preliminary work I’ve done with this data, it certainly seems to support the notion that house prices have outpaced fundamentals across much of Canada.

You may also recall that in previous posts, I’ve examined the impact of changing consumer attitudes towards housing.  In particular, the shift in sentiment towards home ownership can be seen in the rise in ownership rates across all demographics.  My belief is that house prices in Canada may have been modestly undervalued at the start of the millennium as house prices had largely been stagnant for the better part of a decade.  It’s hard to know exactly when house prices caught up with fundamentals such as incomes, inflation, GDP growth, and rents, but I would suggest from the data that we’ve seen so far that house prices began to separate significantly from fundamentals right around the middle of the last decade.  Incidentally, this coincides with a period of unprecedented loosening of CMHC insurance standards and downward trending interest rates.

Human psychology is a funny thing.  While we all love buying consumer products on sale, we find it a frightening thing to buy assets like stocks, bonds, or real estate when they’ve fallen significantly in price.  Bob Farrell reminds us that the public buys the most at the top and the least at the bottom in the stock market.  I will suggest that this is equally true in other asset markets like real estate.  Certainly the experience of the US bears this out.  Having watched their real estate market erase some $6 trillion in household wealth, Americans have a decidedly more bearish perspective on the long-term prospects for real estate.

While the credit crisis has played a large role in reducing the amount of credit available to be lent, thereby making purchasing a house more difficult in some cases, the fact remains that the perspective of the American consumers has changed greatly since the crash.  It’s an interesting phenomenon that rising house prices create demand for houses while falling prices destroys demand.  We saw this for ourselves in 2008-2009 as house prices fell, home sales stalled, and home builders quickly put on the brakes.  You’ll note the fall in house prices slightly preceded the fall in housing starts (source):

Granted the panic of 2008-2009 was an extraordinary event in its scope, but certainly not extraordinary in the manifestation of the great human emotion of fear.  It certainly highlights the reality that housing demand typically softens along with house prices.

This brings us to the topic of today’s post:  How much of a boost has this increased demand for housing had on employment and GDP growth across the country?  In answering this question we also get a hint at the potential economic and employment fallout from a realignment in house prices with measures of fundamental value.

In today’s post we’ll look at BC east to Ontario.  In part two we’ll look from Quebec east.  Note that the data set for the percentage of GDP derived from residential construction unfortunately ends in 2008.  You’ll note the sharp decline in some provinces in 2008 as the Great Recession began to pull at construction.  It would be a pretty safe bet that 2009 saw a flat to modest decrease in construction as a percent of GDP, with 2010 seeing a significant rise in most provinces in line with housing starts (Alberta being the notable exception as house prices and housing starts are well below their 2008 peak).

With that said, I’ll let the graphs do the talking…


British Columbia





Note that every single province is well above its long-term trend line in both the percentage of employment derived from construction and construction jobs as a percentage of total employment.

With interest rates set to rise, credit conditions tightening, and domestic demand arguably satiated, it’s hard to see where this sustained demand will come from to begin with.  Furthermore, housing starts have outpaced net household formation (immigration plus ‘organic’ household growth) for the better part of a decade now, to the tune of some 30,000 units annually.  I believe that this demand has been absorbed largely by the expansion in home ownership rates, a trend that cannot possibly last indefinitely. As a best case scenario, I see this as a drag on employment and economic growth.

However, the best case scenario is far from assured.  With the possibility of a significant nationwide housing correction far from negligible, the risk remains that demand could fall significantly which would have significant implications for economic growth and employment, as construction has been a major boost to overall employment, particularly coming out of the recession.

Lest you’re inclined to suggest that immigration and investment from wealthy foreigners will replace the demand, allow me to remind you of the following:  1)  Even with current immigration trends in place, total population growth is set to slow.  2)  Even wealthy foreigners are subject to the same irrational thought patterns as everyone else.  I’ll suggest that much of the foreign investment we are seeing would decrease substantially in the event of a significant house price correction, exacerbating the problem.



Posted in Economy, Real Estate | Tagged , , , , , , , , , | 56 Comments