Losing Your Head

Hank and his wife have been mulling a lot in Vancouver. Thirty feet of undeveloped dirt. The goal is to erect a structure that can house them plus contain a rental suite and a laneway apartment. Hank figures this could all generate four grand a month in rent – enough to finance the plan and live for about what they now pay in rent ($3,000).

And maybe it will.

But here’s the reality: “Assessed value is $1.7 Million. List price started at $1.65-ish. Dropped to $1.5-something, then $1.49. Now they dropped it to $1.425M. Our realtor is a friend, who is very aggressive. He wants to start at $1.2, but thinks they are thinking $1.3. Properties in our neighbourhood have dropped several times in the last few months. This seems like the time to strike. What do you think?”

That’s easy. It’s ridiculous. Makes you wonder how we ever got to this point of financial absurdity – and what can possibly come next. Hank can’t pull this off without a big load of debt from his credit union, without hoping mortgage rates stay low for decades, nor without taking on market risk, construction risk or tenant risk. It’s a lot for a guy with a full-time job and a family to ponder.

My advice for him would be to forget it, move to Victoria and buy a great house for the price of the dirt in Van. But people grow roots. It immobilizes them and infects their logic. The suggestion would be lost.

This brings me to Aaron, Hank’s son. He’s 28, renting, working, dating and saving. Here’s why I hope he’ll look at his father and completely reject the choices his old man is making. Aaron’s world in twenty or thirty years could bear no relation to that of his parents.

Why? And what should he do about it?

Previous generations have lit the fuse of a debt bomb and thrown it into the future. Huge debt means big servicing costs, lower economic growth, reduced government services and higher taxes. How could it be otherwise?

In Canada the current government has just gone through four years of sustained economic growth, low rates, low inflation and high job growth, and run fat annual deficits. What happens when a slowdown comes? And as the national debt mushrooms higher, interest costs mount so politicians either spend less or tax more. In the States a right-wing, conservative leader in power during a time of record markets and rising GDP is presiding over the first trillion-dollar budget shortfalls during a time of prosperity. How did that happen?

Aaron also faces a workplace dramatically unlike his dad’s. Automation, online services and AI will erase a ton more jobs than they create. Manufacturing work has migrated. Defined-benefit pension plans are disappearing. The developing gig economy means  employers want just-in-time workers who don’t hang around. Employees with benefits turn into contractors with none. Meanwhile social programs may be under pressure as governments at all levels struggle to shoulder debt and finance the pensions of their Boomer retirees.

Already the cracks are showing, as this blog has catalogued. The savings rate has cratered. Household debt is at an historic level. RRSP season is gone. Four in ten people are retiring with mortgages or inadequate reserves. And yet we have a 70% homeownership rate. What a screwed-up place.

But there is hope. And it doesn’t lie in spending a fortune for a few meters of dandelions.

First, Aaron, underspend. Live small. Second, don’t borrow from the future. Eschew debt. Even at a time when the cost of money is low, don’t succumb to the temptation to grab what you cannot afford. Third, minimize tax. You’ve been blessed with the TFSA, which is a Millennial Money Machine – use it. This allows for tax-free compounding and all of the cash flowing out is untouched by government, not even counted as income. But to make the most of this, fourth, you must invest. No high-interest savings accounts. No GICs. No cash emergency fund. Pump your savings into diversified growth assets and, five, go long. Get good ETFs and hang on to them. Ignore volatility and use balance to control it by adding in fixed income as you age.

Six, get real estate if you really need it, but don’t mistake this for a financial plan. That was sometimes the saviour of the last generation. It could be the destruction of yours. In an indebted world there is more chance of asset deflation than inflation. The future will belong to the liquid, not the mortgaged. Housing will revert to being a home, not an investment.

And in doing all of this, Hank will think you’re nuts. Try to understand. You may end up supporting him.

About the picture...

“I’ve been reading your blog for years now and enjoy it very much,” says Kim, “so thanks for the great advice and daily laughs. I attached a silly photo of our dog Blue. She is peeking through the cat door”