National Post (National Edition)
Conference Board predicts Western Canada will lead growth in 2017.
CALGARY • Canada’s three most westerly provinces will lead in real GDP growth this year as a result of increasing oil production and rising housing prices, the Conference Board of Canada predicts.
The Conference Board released growth forecasts for each province Monday, which showed Alberta’s economy will grow 3.3 per cent next year — the highest growth rate in the country — followed by 2.5-per-cent real GDP growth in both Saskatchewan and British Columbia. While a rebound in the energy sector was the main reason for growth in Alberta and Saskatchewan, B.C.’s economic growth would come primarily from demand for housing, Marie-Christine Bernard, economist at Conference Board, said in an interview.
Measures to cool the housing market in B.C. were successful for a time but the housing sector seems to have turned a corner and, even at 2.5-per-cent growth, Bernard said, we might be a little on the low side for growth.”
Giovanni Gallipoli, associate professor of economics at the University of British Columbia, agreed that housing is driving West Coast growth.
Two of the most common mistakes people make when investing are extrapolating past performance into the future and putting all of their eggs in one basket.
Canadians are no different. In fact, we think they have recently been more prone to making these errors than people in other developed nations. Take a look at our economy for example, which is shaping up to be one driven primarily by real estate and a debt-heavy consumer.
The Canadian housing boom is something to be marvelled at, with our homeprice-to-income ratio now 40-per-cent above the longterm average and among the highest in the developed world. The real estate and related financial services industries have followed pace and represent nearly a quarter of the total Canadian economy, the highest level since data started being collecting in the 1960s. In places like British Columbia, real estate, construction and housingrelated finance account for an astounding 40 per cent of GDP, according to Todd Hirsch, chief economist at ATB Financial.
Consumers have been quick to ratchet up their debt to match higher housing prices and the banks so far have been willing to comply. Nearly half of all Toronto’s mortgages are now considered high-ratio, meaning loan-to-incomes greater than 450 per cent, while Vancouver and Calgary are not far behind at approximately 40 per cent and 35 per cent, respectively.
To add some further perspective, Canadian consumer debt levels are approaching the entire market capitalization of the S&P TSX. Think about that.
In regards to diversification, Canada is as close as you can get to being a onetrick pony with financials, energy and materials representing over 67 per cent of the S&P TSX. Therefore as an investor, one should ask if these sectors can deliver over the next 12 months given the current environment.
In regard to energy, we think the biggest gains are behind us as we adjust to an oil price environment that is rangebound with OPEC defending it at any level below US$45 a barrel and U.S. shale producers providing a ceiling by quickly responding to prices above US$55 a barrel. Capital is also leaving the Western Canadian Sedimentary Basin and being redeployed in more attractive operating environments such as the Permian Basin or Marcellus Shale, therefore making it a lot more challenging to grow north of the 49th.
In regard to the banks, which account for approximately 23 per cent of the TSX, we don’t worry about a fallout from the ongoing situation with Home Capital Group Inc. and the subprime market which is quite small. However, we do have our concerns about their ability to repeat the earnings growth of the past should the housing market top out, or worse, roll over.
For example, we tracked mortgage lending over the past few years and it has kept pace with housing prices. As a result Canadian residential mortgages now represent a significant percentage of total bank assets ranging from 15 per cent to 35 per cent.
Then for fun we plotted the total return of the S&P TSX Equal Weight Diversified Banks Index which comprises Canada’s largest six banks against housing prices and discovered a 0.96 correlation. Simplistically, this means the bank stocks are moving in lockstep with housing.
This makes some sense as the banks make more money as their mortgage book expands with a rallying real estate market and personal loan books grow as consumers borrow more to spend on cars, vacations, renovations etc. as they feel buoyed by their higher paper net worth.
As a result, a flat oil price environment leaves housing and its derivative, the banks, to play an even bigger role in driving the S&P TSX return profile.
Given how crowded that basket already is, adding more of those eggs is not something that we feel particularly excited about.