Creative Destruction

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“People,” the lawyer said, “wouldn’t be looking for the return of their deposits if the units were worth more than or as much as they purchased them for.”

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Remember those words. You’ll hear them again.

This is what happens when (take your pick), (a) the economy starts fading, (b) real estate prices slide or, (c) people realize they were horny idiots. The words will be repeated in most cities, and apply to many buildings and housing developments where buyers understand what looked sexy a year ago is now just butt ugly. Worse, dangerous.

The latest glam project to falter is Vancouver’s uber-condo, the Residences at Hotel Georgia. This 48-story excess sprouting from the carcass of an art deco downtown fixture was all the rage in 2010 when everyone believed in the Power of HAM and thought it was different there. Units sold for nosebleed prices of $1,400 a square foot, with the developer promising closings in December of 2011.

The damn thing’s still not finished, and meanwhile Van real estate is crashing back to earth. So an error on the part of the developer – inadequate notice of the delayed closing date – has given regretful buyers a chance to wiggle out of their deals. At least six of them have taken legal action to recover their deposits (typically around $400,000 on deals averaging $2 million), and walk.

This could spell financial disaster for a landmark project. Already 60 of the 156 units remain unsold, years after sales began. If these six deals fall apart, more will likely follow, leaving a signature building half dark.

The timing, of course, sucks. But it always does. Real estate is all about confidence, and this week it’s in shorter supply. For the first time since 2010, the economy’s actually shrinking. GDP growth is negative, thanks in large part to housing – which shows you how a virtuous circle (more borrowing, more buying, more jobs) can flip into a vicious one (more debt, more fear, more jobless).

Manufacturing is slumping, not exactly news given lousy global demand. But the hard brake on the property market has sure grabbed economists’ attention. Weak housing demand, says TD Economics, is now constraining national growth. Construction is fading. Mortgage brokers are drying up and blowing away. Real estate company revenues have crumbled for the fourth month running.

Nobody reading this pathetic blog for the past couple of years should be surprised. The only shock is that the reasonable, sentient, educated people around you could have been such lusty dorks, actually believing (as they still do in Calgary) that real estate can ascend endlessly on the back of debt, cheap money and hype. But to be fair, the ‘it’s different here’ meme was repeated endlessly by mainstream economists plus the robotic temptresses hired to read the news on Global. How could you fight off the hormones and endorphin?

Anyway, it’s over. The next phase is creative destruction – now happening across from the art gallery in downtown Vancouver as the Hotel Georgia tower wobbles, and among the forest of condo spires in godless Toronto. As this blog has said so often it’s beyond boring, there’s no question how this will end.

Last week, for example, I reminded you of the role that shriveled, omnivorous Boomers will be playing in this destructive process. As a group they have most of their net worth in houses, few pensions, fewer liquid assets and will be the first generation of retirees with widespread mortgage debt. Hippie dust to hippie ashes. Freedom’s just another word for nothing left to lose.

As much as I hate it when banks agree with me, another one just did. BMO’s new report claims a third of the country’s nine million wrinklies will have to sell off their houses to stay in Depends. “Boomers could be in serious financial trouble if they are relying in their home,” it adds. “The rally in house prices has given people the false sense of security that investing in a house is safe and an option to fund their retirement.”

False indeed. The bank reminds us that “tighter lending standards and higher interest rates could reduce the number of eligible homebuyers and push people into smaller and less expensive homes.” So, just imagine all those suburban streets full of Boomer particle board McMansions, with their energy-sucking pools and property tax bills to match.

Hard to see how this isn’t shaping up as the perfect storm. Slow growth. Credit crunch. Debt. Demographics. Fear. No wonder rich people with fancy lawyers are wriggling out of luxury deals they see tanking. Wouldn’t you?

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I’ll say it again, real assets are in trouble. Love liquidity. Sha na na.

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avatarGarth Turner - The Greater Fool posted Wednesday, October 31st, 2012.

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