There’s a lot of bets these days on higher inflation and higher interest rates. After being plagued for over a decade with a zero interest rate policy, a new combination of government spending and central bank QE purchases are poised to send inflation higher. So far that’s been the winning trade, with CPI inflation printing close to 4%. However, it seems not everyone is convinced we have an inflation problem. The European Central Bank, one of the most important central banks, doubled down on their views this past week. “Inflation has picked up over recent months in the euro area, largely owing to temporary factors, including strong increases in energy prices. Headline inflation is likely to increase further towards the autumn, continuing to reflect temporary factors,” noted president of the ECB, Christine Lagarde. More importantly, Lagarde added, “Negative interest rates have often been criticized because of their potential side effects. Our assessment continues to be positive as the benefits continue to outweigh the costs.” This begs a couple questions. If inflation is truly transitory are we looking at another decade of zero interest rate policy? What does that mean for risk assets? More importantly how do we define transitory? According

Canadian house prices have been flagged as over valued, unstable, and a risk to the financial system for a long time. These concerns have been noted by institutions such as the IMF (International Monetary Fund) since at least 2012, and have been cited as a major concern by our very own central bank since about 2005. However, betting against the housing market in Canada has proven to be a widow-maker trade. Maximum pain. The housing markets resiliency here has ultimately reinforced confirmation bias that prices never go down. A 20 year bull market that keeps on giving. This view that you can’t lose on housing was recently re-affirmed when house prices failed to drop during a period of record job loss at the onset of the pandemic. Yes the market was ultimately bailed out through government intervention, but that is irrelevant. People believe the government will always be there to support housing because, why wouldn’t they? They’ve already showed their hand- housing is too big to fail. We can see this belief in the form of market activity. House prices nationally ticked up again in May, now up 24% on a year-over-year basis, the fastest pace of home price acceleration

The Covid housing boom has spurred new riches for Canadian homeowners. Household net worth surged 21.5% year-over-year in the first quarter, the largest gain on record. Indeed rising home prices, at least on paper, are making Canadians feel wealthier. To no surprise, households that own their home accounted for almost all of the gains in the first quarter – $730 billion. The wealth of renters was up just $43 billion. Of course none of this would be possible without some help from policy makers and the big banks ramping up mortgage lending. Printing mortgages is a profitable business, and the big banks are now sitting on $40.5 billion in excess common equity tier 1 (CET1) capital. The Big Six internally target an 11% CET1 ratio, but lenders have barrelled past that marker, booking an average 12.8% ratio with a combined total of $270.6 billion in CET1 capital — the highest on record. This excess capital has to be deployed, and the bulk of it is expected to be returned to shareholders. If you’re noticing a common theme here, yes, the booming housing market has been great for existing asset holders. However, for those less fortunate who don’t own assets, they are falling further

The Canadian labour market disappointed for a second straight month, this time shedding 68,000 jobs in May according to Stats Canada. This pushed the unemployment rate back up to 8.2%. If the Bank of Canada was looking for some air cover in order to maintain current stimulus measures, look no further. Sure inflation is running a bit hot at 3.4% but the central bank still thinks its transitory. In fact, I think a bout of inflation is welcomed considering the mountain of debt we have to ultimately inflate our way out of. Inflation has always been a tricky thing to measure, perhaps intentionally. Just think, according to official inflation statistics, food prices are up only 0.9% from last year and shelter costs by just 3.2%. Do either of these sound accurate? To no surprise, the bulk of the inflation is showing up in assets, particularly here in the housing market. Recent data released by local Real Estate Boards highlights rampant price growth across the nation. Here’s the preliminary data for May: – Greater Vancouver +14% – Greater Toronto +19% – Calgary +11% We’re still waiting for other Real Estate Boards to report their numbers but its largely expected the National

The Great reopening is upon us. Similar to the stock market, you have the pandemic trade, which resulted in people wanting bigger homes away from the city, and now I think we are entering the reopening trade. Take the US, for example, which is arguably a month or two ahead of us. Most of the US is now fully open, people are emerging from their homes and eager to travel. House shopping is fading. US home Sales of existing homes in May dropped for the fourth straight month. “Sales are essentially returning towards pre-pandemic activity,” Realtors chief economist Lawrence Yun said. Mortgage applications continue to fall, now at their lowest levels since January 2020.