Will Real Estate Bubble Break? Canada’s largest Chinese hedge fund to vigorously short the real estate industry

On April 5, 2017, Toronto Real Estate Board released the latest data, showing that in March the residential real estate sales in the Great Toronto Area (GTA) rose 17.7% year on year; of which apartment and detached house sales rose the most in GTA. The average price rose 33.2% compared to the same period last year, the largest monthly increase since February 1989. The average price of detached houses is approaching to 1.2 million Canadian dollars.

Bloomberg Financial Report shows that the property market in Toronto is unusually strong

Goldenwise Capital, Canada’s largest Chinese hedge fund investment company, is aggressively shorting the Canadian real estate sector, according to sources.

The Goldenwise Capital headquarters is located in Toronto, Ontario, Canada. It is a low-key hedge fund investment company, managing hundreds of millions of dollars of assets. It is reported that the investment team at Goldenwise Capital is mainly Chinese background, most of whom with renown overseas school and Wall Street work background. It is currently Canada’s largest Chinese hedge fund investment management company, serving the global financial institutions and high-net-worth investors for management of their investment. The Goldenwise Capital team’s historical performance is outstanding. From 2008 to present for nine consecutive years, whether bearish or bullish market, they kept earning every year. Especially in the past few financial crisis, the team is not only profitable, but with excellent earnings.

Goldenwise Capital has strategically laid out in Canadian real estate industry for a while. The company’s press release shows that their investment research team in the real estate sector has increased significantly over the past year. Recently, there are two senior real estate industry investment fund managers to join in: one is from Canada’s largest insurance investment company Fairfax – Maple Finance (a large Canadian listed insurance company, its founder known as the Canadian Buffett, is the BlackBerry’s controlling shareholder), and the other is from an Italian real estate PE investment fund company.

Into 2017, real estate market in Toronto, Canada is unusually strong; the house price in the core regions is calculated and updated everyday in the past two months while almost every house is facing biddings between many buyers. Many real estate buyers sitting on the fence and the housing market short-sellers have unanimously changed their mind, acknowledging that house prices in Toronto will continue to rise. At this point of time, the Goldenwise Capital’s unusual move to the real estate industry does incite investors’ imagination. It is easy to reminiscent of the US real estate market before the financial crisis in 2008.

“The Big Short” (Movie)

“While the banks were having a big old party, a few outsiders saw what no one else could.”

This is a true portrayal of hedge fund predators in the movie “The Big Short”. If you have seen the movie, or read the original, you will understand what a moment it is to make money before the real estate bubble is broken.

The hedge fund investment genius with unique vision, piercing through the real estate bubble under the false prosperity before the eve of the US financial credit storm in 2007, have gained huge by shorting real estate subprime mortgage and become a very small number of profittors with a large amount of profit in the 2008 global financial crisis. Ten years later in Canada, shall the same historical opportunity recur?

Intensified Canadian real estate bubble?

A lot of data show that the Canadian real estate bubble seems to have been at stake, and there are too many similarities to the US market ten years ago.

The real estate bubble began in Vancouver. In the past three years, housing prices in Vancouver soared rapidly, as it is in Toronto today. And now, under the government’s regulations, the sales volume of Vancouver’s housing market has been largely frozen… Data from Canadian Real Estate Association show that, after two consecutive years of climb, the Greater Vancouver Area average housing prices in January 2016 reached 1.04 Million Canadian dollars. But the housing price trend turned around from mid-2016. As of January 2017, the average housing price reduced to only 878,000 Canadian dollars; housing prices fell 19% within only a year.

In Toronto today, as previously in Vancouver, the real estate bubble continues to inflate. After the housing prices rising 15% the year before last year, they rose another 22% fanatically last year. Till January 2017, the average house prices in GTA rose to 771,000 Canadian dollars, 140,000 Canadian dollar increment compared to the same period last year.

Real estate investment dream is about to extinct?

In North America, once house prices rise faster than the income level of residents, usually they will not continue for too long. The high household debt ratio, resulting from the house price increase over-pacing the residents’ income, is exactly the same market situation as that before the US subprime crisis outbreak in 2007. Now we see the same scene in Canada.

The following chart shows us the average price of housing prices in the United States and Canada, relative to the median income of residents (multiples); the higher the price, the higher the index (multiple). As seen from the figure, the US housing prices in 2005 to 2007 soared to nearly six times the average income of residents. And now in Canada it has reached a similar situation, the index (multiple) up to 5.76.

In the meantime, the Canadian residents’ debt ratio also rose to an unprecedented level, comparable to that of the United States residents’ a few years ago. As shown in the figure below, the debt proportion of disposable income of Canadian residents has increased over the years and has reached the level of the US financial crisis in 2008. The debt ratio of Canadian residents has risen as compared to the gradual decline of the US household debt ratio after 2008. It has now been accumulating to an ailing figure greater than that of the United States.

When household debt continues to increase, residents will gradually lose their ability to repay mortgage. When the US subprime mortgage crisis occurred, millions of American residents chose to “abandon” their homes because they could not afford repayment and that was likely to happen in Canada.

                             

According to the Bureau of Statistics, the average population growth rate is 1.6% in GTA in recent years. The amount of funds brought about by new population is not enough to support such fast growth of the entire Toronto real estate market. The existence of the bubble is a declared consensus, and the shadow of the rupture has gradually begun to envelop.

                     

Facing the out-of-control house prices, the Ontario government is also under great pressure and public’s accusations. Over the past year, not only house prices have skyrocketed, but even rents for apartments have risen sharply, leaving many ordinary wage earners facing homelessness. Young people can not see the hope of future life.The status of the North American financial market seems not enough to support such a “thriving” real estate market. In the latest release of the Federal Reserve meeting minutes this Wednesday (April 5), several Fed officials specifically mentioned that the US stock index was at a high level, indicating the financial environment is too loose and some asset class evaluation has a high bubble phenomenon. Some Fed officials pointed out that the rise in US stock prices is mainly affected by the expectation for corporate tax cuts and the enhanced investors’ risk affordability, while not due to the expected increase in economic growth, leading to the outstanding performance of financial stocks. They believe that once the stock index turned around or even encountered correction, part of the Federal Reserve economic forecast model will be brought about downward pressure. The remarks made the three major US stock indexes fall across the board before close.

Investment guru Oakett Capital’s Chairman Howard Marks has said that there are two conditions for an asset bubble burst: both the price and leverage are high enough. The leverage Canadian residents carry is considered high enough in any standards, and the price has reached a very high level. It is very difficult to predict the bubble burst in time; and we hope that in accordance to the real estate bubble bursts in Japan and the United States, usually it will go through 6-7 years rapid growth and 2 times to 2.75 times price increase. The second chart below (in Chinese) illustrates GTA’s gains in the past seven years or so, about 2.3 times. If history can tell some things, the Canadian real estate bubble burst seems to have been visible at all times. Some often say “This time is different”; and as we see it, when the asset bubble bursts, This time is still the same.

                                             

                                                  Average House Prices in GTA (Canadian dollars)

                           

How to short the Canadian real estate industry?

                                

Canada’s five major banks are monopolizing Canada’s banking industry. Royal Bank (TY), Dominion Bank (TD), Royal Bank (CM), Bank of Montreal (BMO) and Scotiabank (BNS) account for about 85% of the banking sector. Canada’s home mortgages amount to about 1.6 trillion Canadian dollars; the vast majority also from the five banks. In fact, Moody company warned last year that if the Canadian housing market experienced a medium-sized decline (about 35%), the five big banks would suffer more than $ 17 billion in losses. Historically, the Canadian banking industry has not experienced a decent financial crisis since the 19th century, and the sharp fall in house prices could have profoundly changed the history. If we study into details, RBC hold uninsured housing loans accounting for more than 5.4 times of its regulated capitals; and thus can be described as the largest mortgagee in all banks.

       

In addition, some non-bank mortgage institutions have long been preys in the hands of Wall Street hedge funds. Home Capital Group Inc. is one of them. The company receives short-term loans from banks and other financial institutions and then lends them to buyers very aggressively. Under the pressure of hedge funds, the company last year admitted to the release of at least 2 billion Canadian dollars of Fraud Mortgage, and also executives suspected of insider trading. The stock price has fallen sharply over the past two years, with the market value shrinking by nearly half (See figure below). Another company worthy of attention is Canada’s largest mortgage insurance company Genworth MI Canada. The amount of short sold company stocks has reached the historical high.

Bearish or bullish? Who will be the winner?

    

Twenty years after rising house prices in Toronto, all the housing market short-sellers have changed mind, unanimously identified that house prices in Toronto will continue to rise. Many of the real estate buyers are still in the crazy bidding wars to buy a house. All kinds of real estate industry organizations in Canada are still advocating “the best time to buy a house was yesterday, followed by today.” But organizations across the country have begun to lobby and pressure the government to introduce control and regulating policies as soon as possible. Now, Canada’s largest Chinese hedge fund investment company has begun to lay out to short real estate industry. Who is the winner? We will wait and see!

 

 

 

Reference reading: Meet the Wall Street Short Seller Betting Against Canadian Real Estate