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The pivot

Wednesday, March 8, 2017 15:41
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Here we go…

The yield on a five-year Government of Canada bond is popping this week as financial markets get ready for the inevitable next Wednesday. The Fed will move its key rate higher on the 15th in the first of what’s now expected to be three increases in 2017. In anticipation, US Treasury prices have been tumbling – the most in five years – the American dollar rising and the loonie falling (down to barely 74 cents now). It’s all a little preview of what you should expect for the rest of the year.

Here’s the bond thing. See for yourself what’s going on with yields…

So what? You don’t own any government bonds?

Well, this is where fixed-rate mortgage costs are set. When American interest rates are jacked by the Fed, the bond market responds, since debt has no real nationality. Canadian bond prices fall in tandem and yields rise in sympathy. Mortgages follow. It has nothing to do with the Bank of Canada, which sits on the sidelines chewing its lip.

A string of rate increases became more likely on Wednesday with the latest employment news south of the border. Wow. Crushed it. Private payroll data indicated companies last month added the greatest number of workers in three years  – almost 300,000. That’s way above the estimate of 187,000, and beyond the 190,000 the government’s expected to report Friday. At the same time, claims for unemployment benefits have crashed to a 44-year low, an indication that fired-up companies are hanging on to employees.

Meanwhile corporate profits have rebounded in the latest quarter, with some analysts forecasting an astonishing 19% increase in overall profitability this year. If anything remotely like that happens, stocks will suddenly look cheap again. And this is even before the Trumpster takes any action to slash corporate tax rates, which will swell the bottom line of corporate America and lead to even more labour market expansion. Already, at 4.8%, the States is considered by many to be at ‘full employment.’

This is why rates will jump. Conversely, our dollar will fall while inflation rises and borrowing costs increase. At the moment none of this looks like conjecture, so you can write it down and start making plans. Load up on cauliflower futures? Check. Place your order for the new HD Road King? Check. Ensure your portfolio has a 20% US$ weighting? Check. Increase weighing in corporate bonds over government ones? Check. Get fully invested and trash cash? Check. Lock in that 2.5% five-year home loan rate? Check. Sell your insanely-bloated house in a wild bidding war to a couple of horny Millennial suckers with a Bank of Mom deposit and an epic mortgage? Yeah, baby.

This year much will pivot. Rates and inflation up. The US economy erupts. The weird populism that culminated in Trump will start to fade as incomes, jobs and opportunities rise. The Toronto housing market will see its delusional zenith. And the debt zombies will start walking around town.

Hopefully, myths will be replaced with facts. Houses do not go up forever. No asset does. Mortgages could double in cost within a few years. No, the whole world doesn’t really want to live in Etobicoke. Or Surrey. There’s zero shame (and real wisdom) in renting. The government isn’t going to save the real estate market or forgive your loans. It’s not different this time (or ever). The greatest risk we all face is running out of cash flow, not living under a bridge.  And over the sweep of decades, financial assets will always outperform real estate, as they always have.

Over the past few posts we’ve covered recency bias. The lessons Isaac Newton had to teach us about human nature. The great 1989-2002 real estate melt. The theme: when you invest with your pants, you lose.

Can I even say that on International Women’s Day?


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