Do you remember “Bad Moon Rising,” by Creedence Clearwater Revival? If so, you are probably older than fifty or a fan of classic rock.
The opening lyrics are: “I see a bad moon rising, I see trouble on the way.”
That’s what the analysts at Moody’s Investor Service saw for Canadian banks. In a press release dated May 10, they said
“Moody’s has today downgraded the Baseline Credit Assessments (BCAs), the long-term ratings and the Counterparty Risk Assessments (CRAs) of six Canadian banks and their affiliates, reflecting Moody’s expectation of a more challenging operating environment for banks in Canada for the remainder of 2017 and beyond, that could lead to a deterioration in the banks’ asset quality, and increase their sensitivity to external shocks”.
They are concerned that consumer debt and elevated housing prices leave the banks and consumers more vulnerable to downside risks than in the past.
Welcome to 2013, Moody’s.
“Moody’s downgrades Canadian banks” was the headline of a Moody’s Investor Services press release on Jan 28, 2013. They wrote “High levels of consumer indebtedness and elevated housing prices leave Canadian banks more vulnerable than in the past to downside risks the Canadian economy faces”
The May 11 press release raises the same issues as the downgrade 5 years ago. Economists, strategists, and traders have been talking about some sort of US style housing triggered, credit crisis occurring in Canada, for at least five years.
In fact, the term “the Great White Short” was coined about the selling of Canadian investment assets, even earlier. Pundits were chock full of reasons why Canada could not sustain rising house prices. They have been wrong for a long time.
In April 2012, the Vancouver MLS Home Price Index (HPI) showed the average selling price of all types of residential housing in the Greater Vancouver area to be $620,500.
Five years later, the same index shows the average selling price to be $941,000.
Put another way, if you believed in the “Great White Short” in April 2012 and unloaded your Vancouver property, you are out $320,500, (or 51.6 percent) as of April 2017, in addition to whatever your rental housing costs were.
You would have received a bit of a break if you had invested the proceeds into a TSX index fund.
Between April 29, 2012 and April 30, 2017, the TSX rose 27.3 percent. That would have cushioned your loss, unless you truly believed in the “Great White Short” trade.
If so, the only cushioning you would have received would have been the one on your couch, with your money stuffed under it.
The proverb “familiarity breeds contempt” refers to the idea that extensive knowledge of something leads to a loss of respect for it.
That appears to be how the markets are reacting to the Moody’s Bank downgrade. The problem is that, eventually, Moody’s will be right.
For example, a one-bedroom, 650 square foot condo in Toronto’s Yonge and Eglington area sold in March 2016 for $340,000. The same unit sold again in March 2017 for $470,000, or 38.2 percent higher. At that pace, in five years this condo would be worth $1,714,032.00
That is not going to happen.
Moody’s is right and the Bank of Canada agrees with them. There are a lot of risks for the domestic economy.
President Donald Trump is one of the biggest. If he expands his trade actions from softwood lumber and dairy to include all of NAFTA, the Canadian economy will suffer.
The US Federal Reserve is another risk. Boston Fed President Eric Rosengren, a former dove, is advocating for three more rate hikes in 2017, contrary to the “dot-plot” forecast for just three hikes in 2017. If he is right (and the recent robust US economic reports concur) the rise in US rates will undermine the Canadian dollar, raising costs for consumers across the country.
The Bank of Canada acknowledged that Canadian economic data had been stronger than expected in the April 12 Monetary Policy Report but believe that the strength is temporary. They don’t see evidence of a well-balanced base to support additional growth.
In addition, global economic growth is exposed to China economic developments and a myriad of geopolitical issues.
Yet, all the above are well known issues.
The Canadian dollar reaction to the Moody’s downgrades was more of a knee-jerk move rather than a fresh impetus for selling. The underlying cause for USDCAD strength appears to be more of a broad US dollar move, in the wake of strong US data and hawkish Fed speak ahead of the June 14 FOMC meeting. That bad moon rising, may indeed be a sign of trouble on the way.