Sunday, December 16, 2007

The Biggest Delusion Revisited

One of the key things that bulls and bears alike must understand is that the recent run up in Alberta real estate prices had little do with the ‘oil economy’ of the province. It was more about real estate frenzy that gripped almost the entire world (Except Germany and Japan). It was more about cheap credit and gullible masses willing to go into massive debts in order to make quick profits. It was also about becoming house poor and getting into massive 40 year amortizations to somehow get into the market and not be priced out forever.

It was also about unscrupulous Realtors and Suzannes getting people to buy dilapidated eighty year old properties on Alberta avenue for $300k.

Not unlike the legions of day traders that were created during the tech bubble of 1999-2000.

Of course, in certain cases, like in Alberta, local supply and demand factors added fuel to fire. And we saw one of the most rampant price appreciation in real estate witnessed in the recent past.

But the market has changed since summer. Prices have been falling for the last several months in Edmonton and Calgary.

Denial is still fervently prevalent and the perma bulls do not hesitate to mock those who question their bullish perspective of "moderate correction is already done and we are set for ‘normal’ appreciation of 6 to 8 per cent till eternity.”

But not without reason. The reason unfortunately, is the same as has been used by all those who have ever bid up the prices of an asset to valuations far beyond its true value. In 2000, tech stocks were the rage because there was a ‘new paradigm’ of tech nirvana that the world had just discovered. For Vancouver, it’s the Olympics and the desire of every mortal to own a million dollar shack in the most beautiful city in the world.

In Regina and Saskatoon, well, the list of compelling reasons begins to shorten. But what was happening in Islamabad Pakistan (a third world country with no democracy and really low quality of living)?

The problem with most Alberta bulls (and those at all other places!) is that they do really believe that they are different. Truly different.

They conveniently forget that the same crappy $250k condos (down a good $50k already from the peak) were selling for around $100k in early 2006. They can weave all the ‘cock and bull’ stories they want to delude themselves, but nothing fundamental changed in the dwelling between 2006 and 2007. Yet the prices doubled.

As I’ve harped ad infinitum in the past, there’s no real reason why the prices should be so high in Alberta, incomes notwithstanding. In free, unregulated markets, cost of production ultimately determines the selling price. All the core ingredients for making a house-land, building materials-except labour are in abundance here. With the weakening in the oil and gas sector, more workers will move towards residential construction, easing the labor pressure. The prices are going to fall as they are now falling in almost all of the US and the UK.

What we witnessed in the world in the last five to six years was a global housing frenzy. We were amongst the last ones to join the party and even though ours was relatively of short duration, we did bid up our houses to near highest levels in the country.

But it is coming to an end. Worldwide. The credit cycle is now contracting. The ABCP problems in Canada haven’t been resolved yet. The Feds can offer all the money to the banks, but there is already a perceptible swing related to risk appetite.

On a different note, thanks to the offer for advertising this blog. Although you are free to go ahead and advertise this blog, I don’t really think there’s any need for doing so. Those who want to make the biggest purchase of their lives without doing any research on the condition of their market should learn it the hard way. A few people do know about this blog: last month this blog had 19,000 visitor sessions.

I do welcome the idea of guest posts from both bulls and bears. So far no bull has taken up the offer of making a convincing bull case. Please mail your post to

Have a wonderful Christmas and happy holidays

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