YYC & YEG set to lead ALL of Canada for growth
Calgary and Edmonton and all of Alberta continue to grow = housing price support, which is pretty much the theme to 50% of the data I post. Alberta is the only province that is continually growing and we would be competing with China’s growth rate if Alberta were a country.
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Edmonton housing market overtakes Calgary in investment ranking
Both cities poised to lead Canadian economic growth
CALGARY — Edmonton has overtaken Calgary as the top community in Alberta to invest in residential real estate.
The ranking was done by the Real Estate Invesment Network and released Saturday. Edmonton was second behind Calgary on last year’s list.
“Before the flood hit, Calgary’s real estate market was performing right in tune to the underlying economic fundamentals. Not too hot, not too cold,” said Don Campbell, senior analyst of the REIN Research Institute. “After the floods hit, the rental as well as the housing markets over-performed the underlying fundamentals and have pushed it into the too hot level, but this situation should not last longer than 12 months. We continue to experience zero vacancy rates, strong in-migration, one of the strongest job creation economies in the country. So slowdown of the effect of the post-flood transaction bump will not be felt negatively in the market due to the pent-up demand. Good news overall for Calgary’s market for the coming years.
“Calgary did not, in essence, lose its No. 1 ranking. It is still one of the top places in North America for property investment. However, Edmonton grabbed the No. 1 ranking because it is behind Calgary in its residential and industrial recovery curve. This means that Edmonton’s market, beginning at a lower position in the real estate cycle, should slightly outperform the returns a homeowner or investors will experience in Calgary, which is already 12 to 18 months ahead on the cycle.”
Campbell said both cities are poised to be economic leaders in Canada in 2014 and 2015 and therefore the forecast for in-migration and housing demand remains very strong.
The ranking for other Alberta communities are: 3. Airdrie; 4. Leduc; 5. St. Albert; 6. Red Deer; 7. Fort Saskatchewan; 8. Fort McMurray; 9. Grande Prairie; 10. Lloydminster; 11. Okotoks; and 12. Lethbridge.
Calgary ranked top Canadian city in which to live
Thanks to this kind of press Calgary has a high in-migration rate. All those people moving here need to live somewhere. Rents are high and that causes people to buy, supporting home prices. High quality jobs and high employment will keep this trend going.
Calgary is ranked as the top city in Canada to live.
CALGARY — Calgary has overtaken Ottawa as the best place to live in Canada, according to an annual survey by MoneySense magazine in a ranking based on hard data such as employment, housing prices, crime, weather and household income.
In releasing its results of 200 Canadian cities on Wednesday, the magazine said “high incomes and an abundance of jobs fuelled by the boom in the energy sector are among the reasons it jumped from No. 14 last year to No. 1 this year.”
In addition to being the top city, it was also named the top city in which to raise kids.
Alberta has five places listed in the top 10 this year.
St. Albert is second with Strathcona County fourth, Lacombe eighth, and Lethbridge ninth.
Other top 10 places are Burlington third, Oakville fifth, Ottawa sixth, Saanich seventh, and Newmarket 10th.
In a list of the top large cities in Canada, Calgary is first followed by Ottawa and Edmonton.
In a list of top small cities in Canada, St. Albert was first followed by Strathcona County as second and Lacombe third.
Dont get excited about BMO’s 2.99% mortgage again.
BMO is bringing back the 2.99% mortgage again. Don’t get worked up about it. It is just as super-restricted as it was before, 25 year am max and there is a Due on Sale clause causing a need for a payout – which could be literally thousands in penalties.
This mortgage does not fit for most people.
We can get you a full-featured product for the same rate without the crazy risky down side.
business.financialpost.com/2012/03/07/mortgage-wars-round-2-bmo-slashes-rate/
Alberta job growth outpacing Canada: Statistics Canada
This is great news – but a bit old as everyone in Alberta is aware of their friends getting great jobs, without interviews, for more than they were expecting! And all those people are buying homes which will support the prices.
3.9% jump in employment in the past year
CALGARY — Alberta had the highest rate of employment growth in Canada in the past year.
Statistics Canada reported Friday that the province’s unemployment rate remained at 4.9 per cent in January, which was the lowest in the country, and Alberta’s pace of employment growth was 3.9 per cent from January 2011, creating 79,500 jobs.
“I’m finding the job search is taking less time than it would normally take. A lot of my clients are finding work much quicker,” said Eileen Dooley, career coach and team lead at Cam McRae Consulting, an outplacement and career coaching agency in Calgary. “Usually a job search can take anywhere from three to six, eight months. Averaging about two I’m seeing now. Definitely a good time.
“So many companies are hiring. And they’re hiring like hundreds and some thousands over the next couple of years in all different areas. It’s not just technical. It’s not just engineering. It’s administrative. It’s everywhere. So this is a really good time to look for work. It’s a really good time if you’re not happy with your job. If you’re thinking of moving to something else, now is a good time to do it.”
In the past year, the unemployment rate in the Calgary census metropolitan area has dipped from 5.9 per cent in January 2011 to 5.0 per cent in January 2012. Employment growth of 4.9 per cent in the region has created 34,400 more jobs than a year ago.
Nationally, the unemployment rate rose to 7.6 per cent in January from 7.5 per cent the month before. Employment was virtually unchanged in January across Canada rising by 129,000 or 0.7 per cent from the year before.
“While other regions are simply treading water, Alberta seems to be hanging on to its hiring momentum. We expect this trend to continue throughout 2012,” said TD Economics.
Nationally, employment was flat on a monthly basis with only 2,300 jobs created.
Douglas Porter, deputy chief economist with BMO Capital Markets, said that at a national level the employment report reinforces the point that Canada’s job creation engine is cooling markedly.
“There is no one single factor to explain the softening trend, although the sustained decline in finance, insurance and real estate is particularly notable. Previously strong sectors, such as construction and public administration, are also fading. With domestic drivers now gearing down, the job market needs the U.S. economy to gather some serious momentum to keep the recovery on track,” he said.
Unemployment rates in January by province:
Alberta 4.9%
Newfoundland and Labrador 13.5%
Prince Edward Island 12.2%
Nova Scotia 8.4%
New Brunswick 9.5%
Quebec 8.4%
Ontario 8.1%
Manitoba 5.4%
Saskatchewan 5.0%
British Columbia 6.9%
Canada 7.6%
Source: Statistics Canada
Canada’s East-West economic divide deepens
As the divide gets greater the West continually does better. Alberta is the best place to live and do business in North America right now. That creates home demand and supports home prices.
This is from the Globe and Mail:
Saskatoon will lead the country’s economic growth this year, along with the other resource-rich cities of Calgary, Edmonton and Regina.
The Conference Board of Canada’s annual metropolitan outlook of 27 cities also sees a deepening economic divide between the West and the rest. Growth in factory-heavy central Canada will be tepid and St. John’s, which had led the country’s growth in the prior two years, will tumble to the bottom of its economic growth ranking.
For this year, Saskatoon will tally the strongest expansion, pegged at 4 per cent. The country as a whole is seen growing a modest 2.4 per cent in the year.
Despite global economic turmoil, “high prices for agricultural products, minerals and oil are likely to continue,” said Mario Lefebvre, director of the board’s centre for municipal studies. “Canada’s prairie cities will reap the benefits of this global demand for commodities.”
Saskatoon’s growth this year, underpinned by a resource boom in the province, is actually a slowdown from an estimated 4.6-per-cent expansion last year. Still, the city’s jobless rate of 5.4 per cent is well below the national average, and the jobs boom has meant international migration to Saskatchewan in the third quarter of 2011 hit its highest level since 1971.
Calgary, meantime, is seen expanding 3.6 per cent this year. In 2013, the city is forecast to lead all Canadian cities with growth of 4.9 per cent.
In Edmonton, job growth of nearly 40,000 new positions last year alone is seen supporting domestic demand. A strong energy sector will drive growth of 3.4 per cent this year. Regina’s growth is pegged at 2.9 per cent.
It’s a different story elsewhere. “The outlook is not as promising for cities in central and eastern Canada,” Mr. Lefebvre said. “The uncertain global economy, a continued slow recovery in the manufacturing sector and the windup of fiscal stimulus introduced by governments in recent years will hamper overall economic growth.”
Ontario will be hobbled by a slow U.S. recovery, strong Canadian dollar and government austerity. Manufacturing, meantime, remains well below pre-recession levels.
Belt-tightening in Ottawa will weigh on that city’s economy. Public administration employment tumbled 2 per cent last year, and is forecast to slide another 3.6 per cent this year — a loss of 9,000 jobs over these two years. As result, real GDP growth is pegged at just 1.8 per cent this year.
Toronto’s economy is forecast to grow 2.6 per cent this year, while Hamilton, London, Kingston and Niagara will all see below-average growth.
In Quebec, Montreal’s economy will grow a modest 2 per cent this year as a third straight year of growth in the manufacturing sector helps offset an expected downturn in construction. Quebec City is forecast to expand 2.1 per cent.
Saguenay’s economy will expand by 1.5 per cent this year, its best performance since 2002. The manufacturing sector is expected to resume growth this, boosting employment in the sector.
“The brightest development in Saguenay has to be the return of positive population growth in both 2010 and 2011,” the report said. “As a result, domestic demand has been stronger and should continue to expand in 2012, leading to an almost 2-per-cent rise in overall services sector output.”
St. John’s is expected to see the country’s weakest growth, at just 0.7 per cent this year.
“After two spectacular years, the St. John’s economy has limited growth prospects this year,” the report said, amid a booming construction sector. Looking ahead, “waning offshore oil production wells, fewer housing starts, and the end of the infrastructure spending program will weaken economic growth.”
In B.C., Vancouver will grow 2.6 per cent amid a decline in residential construction and growth in the services sector. Victoria will grow a scant 1.9 per cent.
Credit Score Info – this is great data
Below is a good article on credit scores.
Mortgage applications are evaluated on 4 factors. You can think of them as “legs of a chair.” If 1 or 2 legs are shaky it could still stand if the other 2 are strong. Obviously, a 1, 2 or 3 leg chair does not work so well.
The 4 factors are:
- Credit report and score – this article is all about this point
- Down payment amount and source of funds
- Employment history
- and Property quality.
There is lots of good info below on #1 and here are the magic percentages that are hard to find:
- 35% of your score is your debt -to-limit ratio of your existing credit. There are extra points for balances at less than 50% of the max and you slowly lose points as you get up to 75%. Even $1 over limit can cost you 50 points or more.
- 30% of your score is your repayment history. Ensure you make ALL of your payments on time, even if it is only $10. These are tracked for 7 years so on time payments are super important. Remember to pre-pay if you are going to be away on holiday – this is where most people get caught.
- Only 10% of your score is based on “credit inquiries.” There is more on that below.
- The final 25% of your score is based on a few other “things” like:
- your credit mix (installment payments like car loans and RRSP loans, and revolving credit like credit cards)
- the length of time your that you have had credit – banks like to see 2 years for each to get a good idea of what your long-term behavior is like.
- and collections, judgments, other “things”
So … Why is it so important to have a good credit score?
“When a client is applying for a mortgage, they need to bear in mind that lenders (and in most cases, the insurers as well) put considerable weight on the applicant’s credit score,” explains Leslie Penney, a mortgage professional in St. John’s.
“It’s basically a snapshot of a client’s credit situation at that moment in time, although it also reports on the client’s credit history.”
Credit scores are determined by using a complex formula and rating scale, says Penney. Credit rating agencies look at your income, your debt repayment history, your total approved credit limits, your credit usage levels and more and that information is crunched into a scoring system that assigns a number of between 300 and 900. This is known as your FICO score. The higher you are on the scale, the less risky you are to a lender.
For example, says Putnam, a number of 750 to 799 is shared by 27 per cent of the population. Statistics show that only two per cent of the borrowers in this category will default on a loan or go bankrupt in the next two years. So that means that anyone with this score is very likely to get that loan or mortgage they’ve applied for. These scores, which are called beacon scores, may also be used to determine the interest rate you will pay on the loan for which you’re applying.
Credit rating agencies like Equifax Canada and TransUnion Canada are typically used in Canada to determine scores. Remember that your credit report or rating is not the same as your credit score, though they’re closely linked. You can get your report or rating from Equifax or TransUnion for free by going to their websites. Equifax now offers a phone based service for free reports without score at 1-800-465-7166. Your credit score will cost you approximately $23 and it will include your credit rating or report. See the appropriate websites for more information.
Mortgage and credit experts all recommend getting a sneak peek at your credit rating yearly or every two years. The main reasons for this are to ensure that the information the credit bureau has is accurate and to make sure you’re not the victim of fraud. “Because we love to borrow money, that means almost every adult Canadian has a credit file,” explains Putnam. “More than 21 million of us have credit reports. And most of us have no idea what’s in them. Are there mistakes? Have you been denied credit and don’t know why? Is someone trying to steal your identity? A simple check of your credit report will probably answer all those questions.”
Factors affecting a credit score are paying your bills on time. This one weighs fairly heavily with some estimates as high as 35 per cent, says Tanner Coles, a mortgage expert at Dominion Lending Centres in Surrey, B.C. “Most of the public is aware that by failing to make debt payments on time or not at all, that will damage their beacon score,” he says. “I cannot stress enough how important it is to make your payments on time, even if it is just the monthly minimum. The credit report will show when you have made late payments and how many times. This is a large red flag for lenders. They want to see that you are able to pay your debts. The riskier it is for the lender, the harder it will be for you to obtain a mortgage.”
Don’t be afraid to use your credit as lenders want to see a history of repayment, says David Larock, an independent mortgage agent in Toronto. But keep your credit card balance well below your account limit. “Most people don’t realize that spending up to their limit every month will hurt their score, even if they pay in full each month,” Larock says. “There are two ways to address this: spend less or get your limit raised. In fact, raising your limit, if you qualify, is one of the easiest ways to help your credit score.”
Consumers also need to be wary of heavy-duty credit seeking, says Kristian Harris, a mortgage broker with Monstermortgage.ca in Toronto. Harris is adamant that consumers should not apply for every credit card that comes their way as this will bode poorly on your rating. “Unless you absolutely need it, don’t do it,” he warns. “Typically, the ones that need credit are the ones who use it, and they’re the ones who get in trouble.”
Most credit holders are unaware that your credit is negatively affected every time a company checks your credit, says Coles. Your score may decrease by a couple points every time you authorize an inquiry. “This is a major benefit of using a mortgage broker rather than shopping for a mortgage on your own,” he says. “A mortgage broker is able to pull a credit report once and use this report to find you the best product. A consumer who approaches five different banks about a mortgage will have five different credit inquiries which will hurt their beacon score. Sometimes this is difference between being able to get a great discounted rate or not.”
Larock thinks borrowers need to be wary of having too many credit lines. A series of small loans can hurt your score because it looks like your cobbling together any credit you can get your hands on and lenders will worry that you could end up in a position where you have borrowed more than you can pay back.
The best way to avoid this is to consolidate your debt into one large loan, he recommends. Negative credit issues can stay on your record for quite a while, depending on what province you live in and the type of issue reported. Three to six years is the average length of time that negative credit information must stay on your record in most provinces.
If you have poor credit, don’t despair, says Harris. Resolve to improve your rating by paying down balances and paying your bills on time. People with exceptionally poor credit need to re-establish their credit by getting a secured credit card. These cards are similar to gift cards as you pay the credit company upfront and then make purchases on it until the balance depletes.
Variable mortgage rates are no longer as attractive
Garry Marr Dec 17, 2011 –
The days of getting any sort of discount on a variable rate mortgage are over — again.
Those mortgages, tied to prime, have become a mainstay of the housing market. And, why not? While prime has stood at 3% at most major financial institutions, the discount has meant a rate as low as 2.1% at times this year.
However, in the last 10 days what was left of that discount — it had already been shrinking for weeks — has disappeared at all of the major banks.
You have to head back to the credit crisis of 2008 to find a similar period where the discount disappeared. At the time, consumers were paying a 100 basis point premium above prime for the privilege of a floating rate.
The new reality is expected to reshape the mortgage market in the coming months, reversing a strong trend that had seen consumers roll the dice on interest rates, confident in the belief they were not going up.
How confident were they? Well the Canadian Association of Accredited Mortgage Professionals says 37% of consumers opted for variable rate mortgages over the last year, bringing the total percentage of those with a floating rate to 31%.
To be clear, anybody with an existing mortgage is unaffected until they renew. Why would you want to renew early or lock in if your present rate is 2.1%?
“If you have three and half years left on that term you are not going to give it up,” said Vince Gaetano, of Monster Mortgage, adding you can borrow at 3.29% if you lock in for five years or 3.09% for four years. “The last decade I’ve been telling people to go variable but I’m saying go fixed [for new clients].”
The other key advantage for a term five years or longer is you get to use the rate on your contract to qualify for a mortgage as opposed to the current five-year posted rate of 5.39%. The difference means you’ll qualify for a larger loan by locking in.
“People are being heavily compelled to lock in,” says Doug Porter, deputy chief economist with the Bank of Montreal, in talking about the negligible spread between short and long-term money.
Will Dunning, an economist CAAMP, said his group was not surveying consumers the last time short-term rates climbed like this so he can’t be sure what the reaction will be this time around.
Meanwhile Farhaneh Haque, director of mortgage advice and real estate secured lending with TD Canada, says she’s already seeing the effects as people shy away from variable. Her financial institution is not offering any discount at all on prime these days, a move necessitated by rising borrowing costs for the bank.
“I think there is a whole different conversation that we are having now than we were a few years ago,” says Ms. Haque, adding at today’s rates fixed products have their own attraction. “The stability it offers with a low rate makes it more affordable.”
While Benjamin Tal, deputy chief economist with CIBC World Markets, doesn’t think variable rates premiums will rise above prime, the drop in the discount we’ve seen in the last few months could impact on the housing market.
In particular, the condominium market seems the most vulnerable as investors trying to stay cash flow positive — virtually impossible in Toronto’s current condo market based on rental rates and the costs of carrying a mortgage with a 25% down payment. Investors have opted for the cheaper variable rate products in an attempt to keep costs down as they waited for a payday based on capital appreciation.
“You know 80 basis points below didn’t make much sense either. I think variable at prime is the new normal. They won’t go higher unless we get a new crisis,” says Mr. Tal, adding banks were not making much money on variable with the steep discounts so they backed away from them.
Mr. Tal’s information points to the record high for variable rate products being driven by investors and he thinks the new rates will hit that segment of the market
“I think you will see an impact on the investor market in the next six months. The shift hasn’t happened yet,” says Mr. Tal.
Canada’s economy surges ahead
There is good news out there for the Canadian economy and home buying. Here is some below.
Christine Dobby Nov 30, 2011 – 7:06 PM ET
The Canadian economy was not as bad as first feared in the third quarter. In fact, it was much better than almost anyone had hoped.
Fuelled by record monthly output from the oil-and-gas and mining sectors and overall export strength as temporary headwinds drifted away, third-quarter economic growth shot past expectations.
Statistics Canada said Wednesday that gross domestic product for the period rose by an annualized 3.5%, beating economists’ more moderate average prediction of 3.0% growth and the Bank of Canada’s forecast of 2.0%. In September alone, the economy grew 0.2% from August, falling just short of a 0.3% increase economists predicted.
The growth during the quarter comes as a welcome change after a revised 0.5% contraction in the second quarter.
Net exports staged a decided recovery as external pressures like the fallout from the Japanese natural disasters in March were no longer a factor.
But the devil is in the details as flagging domestic demand and weak business investment lurked beneath the report’s strong headline growth. A close look at the data has economists forecasting only modest growth — in the range of about 2% — in the coming quarters and predicting the Bank of Canada will remain on hold with interest rate hikes.
Here’s what stood out from Wednesday’s report:
EXPORTS
The driving force behind the uptick in GDP for the quarter, exports grew at an annualized rate of 14.4%, up from a pullback of 6.4% in the previous quarter.
Paul Ferley, assistant chief economist at Royal Bank of Canada, said that factors that weighed on Canadian exports in the second quarter — including the Japanese supply-chain disruptions as well as wildfires in Northern Alberta that led to shutdowns of oil sand production facilities — were resolved in Q3 and contributed to the increase.
But, he cautioned, “The boost to third-quarter growth provided by the reversal of these factors is not expected to continue to the same extent into the fourth quarter.”
As the global economy stalls and prospects for a quick turnaround look increasingly grim, economists predict it will could spoil the Canadian export party.
HOUSING
Canada’s unstoppable real estate market was another bright spot during the quarter. Residential construction shot up 10.9% annualized, following on comparatively modest increases of 1.6% in Q2 and 6.7% in Q1.
“After quarters of booming housing starts data, the residential construction bonanza finally translated into the GDP numbers,” said Emanuella Enenajor, economist at CIBC Economics.
The expansion in this sector came from all three major components including fees and transfer costs related to resale transactions, new housing construction and renovation activity.
“Continued strength in new-home sales has elicited more and more new housing construction, particularly in the high-rise condo market,” said David Madani, Canada economist for Capital Economics.
He noted that a reported increase in housing starts bodes well for further strong growth in this category next quarter.
CONSUMER SPENDING
Canadians slowed their spending on goods and services during the quarter, raising red flags for economists concerned about sluggish domestic demand.
Personal expenditures grew at an annualized rate of 1.2%, down from an expansion of 2.1% in the previous quarter.
“A slowing pace of income growth owing to tepid hiring and weaker wage dynamics will likely continue to put downward pressure on consumption activity,” Ms. Enenajor said.
BUSINESS INVESTMENT
Business investment actually contracted during the quarter with a decrease of 3.6% annualized, down from last quarter’s 14.6% increase.
“Weak business investment is a worry, as it has been an important source of growth since early 2010 and replaced personal spending as the main source of domestic growth,” said Charles St. Arnaud, an analyst with Nomura Global Economics.
He noted that this, coupled with the fact that personal spending is likely to remain weak, “Could mean that domestic demand stays weak over the next few quarters, as global uncertainty remains high.”
FINAL DOMESTIC DEMAND
The combined slowdown in consumer spending and business investment was a drag on final domestic demand, which rose only 0.9% in the third quarter, down from a 3.1% gain in Q2. The other component, government expenditures, was flat in the quarter as government stimulus spending continues to slow to a trickle.
“Note that the pace of final domestic demand has been consistently slowing since 2010, weakening from around 6% to its current sub-1% pace,” Ms. Enenajor said.
Complaints about Mortgage Prepayment Penalties
TORONTO, June 9 /CNW/ – Complaints about the financial industry have reached record levels, according to new figures released today by the Ombudsman for Banking Services and Investments (OBSI).
OBSI looked into 990 banking and investment consumer complaints in 2009, representing a 48 % increase over 2008 and a more than tripling of the number of case files in just three years. OBSI also processed over 12,400 individual inquiries from consumers and small businesses in 2009.
As in recent years, OBSI saw more investment cases (599) than banking cases (391). Investment complaints continue to drive much of the overall increase in complaint volumes OBSI deals with. While banking sector complaints were up 21%, investment complaints were up a staggering 73%.
“The global economic crisis, coupled with sharp declines in financial markets, gave rise to much of the increase in complaints we saw,” said Douglas Melville, Ombudsman for Banking Services and Investments. “However, despite the improvement in the markets over the last year, complaint volumes remain high. We expect this to continue.”
OBSI looks into complaints about most banking and investment products and services including: debit and credit cards; mortgages; stocks, mutual funds, income trusts, bonds and GICs; loans and credit; fraud; investment advice; unauthorized trading; fees and rates; transaction errors; misrepresentation; and accounts sent to collections. Where a complaint has merit, OBSI may recommend compensation up to a maximum of $350,000.
“On the banking side, many of the complaints we saw dealt with mortgage prepayment penalties, rates on lines of credit, or fraud,” said Melville. “On the investment side, the vast majority of cases were related to the suitability of investment advice. Investment advisors need to fulfill their “know your client” obligations as well as explain the risks and characteristics of the products they are recommending.”
In 2009, consumers received compensation in 28% of cases reviewed by OBSI. The rate of compensation was 20% for banking complaints and 35% for investment complaints.
The Ombudsman for Banking Services and Investments (OBSI) is the national independent dispute resolution service for consumers and small businesses with a complaint they can’t resolve with their banking services or investment firm. As a free alternative to the legal system, we work informally and confidentially to find fair outcomes to disputes about banking and investment products and services.
A good overview of perceived impacts of the EU situation to the US economy.
From the Investment Advisory Service I subscribe to. A good overview of the perceived impacts of the EU situation to the US economy.
| Investment Comments
The generally benign market environment of the 1990s and low volatility experienced throughout much of the first decade of this century (until 2008) sometimes leaves investors unprepared for normal volatility that has characterized the market throughout history. As a result, investors panicked earlier this year when the Dow slipped over 900 points in three weeks. Over the next 2-1/2 months, the Dow moved up a strong 1500 points. The Dow has now given up about 1000 of those hard earned points in another three weeks. Volatility is the norm for investors, but it is still uncomfortable. In the middle of what appears to be a market “correction” that happens in most years, even in a rising market, the Dow dropped over 500 points in ten minutes on May 6. Clearly this was not normal. It appears that “high-frequency traders” set off an avalanche. The term “high-frequency traders” refers to computerized techniques used by Wall Street firms and hedge funds to analyze short-term data and make trades faster than a human being could. It is said that over 70% of U.S. equity trades come from these traders. While such trading makes money for their sponsors, it also increases trading volume and is helpful to the market. During a period of high market volatility the afternoon of May 6, it appears that many traders simply turned off their screens and stopped participating. The market for many ETFs (exchange-traded funds, which are unmanaged baskets of stocks) became quite thin, and there were far more sellers than buyers. Some of these supposedly safe index funds actually traded for a few pennies per share. This caused speculators to sell the underlying stocks that make up the ETF indexes because the index itself was much cheaper than the sum of its parts. The overall market dropped 5% in just ten minutes. This is the kind of traumatic drop that one might associate with a terrorist attack or assassination of a world leader. However, these were the actions of speculative traders and their computerized techniques, not of rational investors. The broader trigger for the recent volatility is the growing concern over the status of the European Union (EU) and its currency, the euro. Market wags use the term PIGS to lump the troubled economies of Portugal, Italy, Greece and Spain into a convenient package. Greece accepted a massive bailout ($145 billion) from the EU as world markets were in turmoil. The EU and the International Monetary Fund (IMF) unveiled an even bigger rescue plan of $955 billion for any EU member country. Greece does have its problems, but Portugal is taking the responsible approach of cutting spending and raising taxes, rather than looking for a global bailout. However, Greece and Portugal are a relatively small part of the global economy. To become a problem for the U.S., the problems would have to spread to Italy and Spain. Hopefully the size of the EU/IMF bailout will prevent this in the short-term, but longer term the presence of bailout money makes it easy for weak economies to avoid real reform. The fundamental problem is that the euro is a flawed currency where 16 individual European countries devise economic policies under EU guidelines, but with little enforcement. European economies are simply too diverse for a single set of rules. Some countries, particularly the southern European ones, have historically taken on debt instead of paying their bills. The debt would keep piling up and the countries would experience currency weakness and devaluations as a way of inflating their way out of debt problems. This doesn’t jive with the stricter economies and stronger currencies that have historically come from countries like Germany. So far the U.S. has been affected in three significant ways. The value of the dollar has skyrocketed, especially versus the euro. This can hurt U.S. exports as they become more expensive when denominated in euros, but it also helps keep inflation in check because import prices tend to fall. Second, global investors have flocked to U.S. Treasuries, helping our government fund its debt at much lower interest rates. Lastly, global oil prices have come down sharply, more than 20% in just a few weeks. As scary as this volatility might be, it is fairly normal in a historical context. The global market reaction reminds us of the “Asian Contagion” in 1997-1998. Concern over Asian economies caused the value of their currencies to decline sharply, triggering a worldwide panic. Russia defaulted on its debts. There was also the bankruptcy of a large hedge fund that controlled 5% of the world’s bonds. Yet, economic growth continued, and the U.S. stock market was up by more than 20% in each year. While these types of events seem very significant at the time, the passage of time typically allows cooler heads to prevail. U.S. economic statistics are starting to move from “encouraging” to “impressive.” An amazing 290,000 jobs were created in April, although the unemployment rate edged up as previously discouraged workers reentered the workforce and were now counted as unemployed. First quarter Gross Domestic Product grew at an annualized rate of 3.2% and consumer spending was even stronger. The factory sector is strong, although off of a weak base from early 2009. Factory orders were up in March for the eleventh time in the past twelve months. Consumer behavior is solid, with personal income rising in March for the ninth straight month. Personal spending grew even faster for the sixth straight month. Inflation remains well contained. The recent events in Europe will likely have some impact on the U.S. economy, but we don’t expect it to be severe. Euro-zone economies make up only 14% of U.S. exports, and most companies indicated in their first quarter results and conference calls that Asia is booming. Hopefully, recovery in the U.S. and strong growth in Asia will be enough to offset continued weakness in Europe. We don’t see any reason at this point to believe this will turn into anything long lasting. |
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