J.Gerwing Financial Planner Kelowna - WHEN HISTORY DOSEN'T MATTER

WHEN HISTORY DOESN'T MATTER ANYMORE
BY GARTH TURNER
August 28, 2005

My, my, my. It is always interesting to me how some people (maybe most people, come to think of it) deny the lessons history has to teach us. They think current trends will be in place forever, and take action accordingly.

How else to explain why hundreds of millions of people poured tens of billions of dollars in the stock of companies that didn't make any money? Because everybody else was; because the media was consumed with the dot-com craze; and because they denied what history had to teach.
How else to explain why investors bid the price of a single ounce of yellow metal beyond $1,000? Because it was the thing to do; because the media was consumed with gold; and because everybody thought it would go up forever.

Now, how do you explain why real estate values have soared by more than 70% in the last five years across most of the United States? Why a house in a so-so Toronto neighbourhood has doubled in value in the last seven years? Why the average home price has hit the highest point in history, or why mortgage debt has exploded?

Because, of course, real estate values will go up forever. Because the media is consumed with housing, and because historical cycles have absolutely nothing to do with us anymore. Just ask reader Amy Strutt, who fired me off an indignant e-mail a day or two ago, after reading an article I wrote some months back, pulling comparisons between real estate today and the dot-com craze of 1999.

"Why don't writers and journalists like yourself take an approach of teaching people versus fear-mongering tactics in hopes of selling one more book or article," she fumes. "Articles like this one do nothing but put fear into the hearts of hard-working people."
"Do you honestly believe real estate is riskier than stocks or bonds? Hardly. After September 11, what happened to my real estate portfolio? It went up!"

Hey, Amy, I bet it did. Actually, the events of Nine Eleven were one of the most significant catalysts for the real estate reality that exists today. Dismayed by the hit financial markets took, investors already disappointed at the popping of the technology bubble took billions out of paper securities and drove that money into bricks and mortar. At the same time, to stave off recession, the American central bank collapsed interest rates, which would lead to the artificially-low mortgages that we have now.

As a result, the real estate craze was on, and has resulted in the housing bubble that characterizes so many cities across North America. Rising real estate values have been masked by generationally-cheap debt, making housing appear far more affordable than it would be under normal circumstances. Meanwhile, consumers have been done no favours by "experts" with a unique relationship with the real estate market like big-name realtors and economists employed by the major lenders (like the big banks). People have been told repeatedly that real estate is still affordable; that prices will continue to increase (albeit more slowly); and that there is no real estate cycle anymore.

This may well be true. Maybe house prices will go up every year for the rest of your life. And if you believe that, then there is no reason to sell at the top of the cycle (because there isn't one), or to pay down mortgage debt (because rising prices make it more insignificant each year).
But it you are like me, you ask questions. Who, exactly, is going to come along and buy your house in the suburbs of Toronto or Calgary for more than the million dollars you paid? How can we be growing millionaires this fast when the average family income is less than $60,000, and has not grown much for a decade? What happens when mortgage rates increase, as they are set to do after the coming long weekend? When we are building 200,000 new houses a year in Canada, when does the supply exceed the demand? And, most importantly, when the average house prices exceeds the ability of the average family to buy it, what happens then?

Am I saying real estate is about to collapse? No. Hardly. It's still a good investment asset, and you have to live somewhere. A principal residence makes great sense. But a condo, or second house, bought to rent out does not. A mortgage you can only afford to carry at today's rates is a time bomb. A zillion dollar cottage on the lake could sink you.

But that's just me talking. And history.