Why This Billionaire Is Bearish on Canadian Housing

Billionaire investor Kyle Bass has a history of getting big bets right. Is he right about Canadian housing?

The Motley Fool
You’re reading a free article with opinions that may differ from The Motley Fool’s premium investing services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn more

In 2005, after spending about a decade in various senior management roles in wealth management companies such as Bear Stearns and Legg Mason, Dallas-based Kyle Bass decided to start his own hedge fund, Hayman Capital. He started with just $33 million worth of capital from his own resources, family, and friends.

In 2007, after extensively researching the United States mortgage market, Bass invested most of the fund’s capital in collateralized debt obligations that bet against the worst subprime mortgages he could find. In two short years, Bass had turned that small investment into an estimated $4 billion profit.

Not content with predicting one huge economic disaster, Bass put a big chunk of his profits into betting against the government debt of many European nations, particularly Greece. He got that one right as well. Estimates are that Bass made a few additional billion from that deal as well.

Nailing these two big predictions made Bass into a bit of a celebrity. Noted finance author Michael Lewis profiled Bass in his 2011 book Boomerang: Travels in the New Third World, spending some time with Bass at his rural Texas mansion. In the book, Bass outlines his reasons for investing $1 million to buy 20 million nickels, stating that the metal in each coin is worth about seven cents. He thinks eventually the United States will stop producing nickels, leaving him free to melt down the coins and collect the profit.

Bass’s latest call

Bass has a history of making outlandish calls, but also has a history of getting them right. During his latest outlook and opportunities talk, Bass had this to say about Canadian housing.

“Look, one of the potential butterfly effects (of a Chinese slowdown) is Canada… Canadian home prices are, on a median, nine times median income. The U.S. hit seven times at the height of the subprime bubble. Where Canadian housing sits today is completely unsustainable… All of the prescriptions for a problem in Canadian housing are out there… It sure looks to me that Canada is all of a sudden coming to a halt.”

Bass tends to keep his investments close to his chest, so we don’t know if he’s actually short Canada, or if he’s just making an observation. If he was betting on a housing correction, he would probably be short these three Canadian lenders.

Home Capital

Home Capital (TSX: HCG) is the obvious stock to avoid if investors are convinced Canadian housing is overextended. It lends to people who normally don’t qualify at traditional lenders, and most of its new loans aren’t insured against default. It’s a good business when home prices are doing well, but has the potential to be a terrible business when home prices fall.

Right now, the company is firing on all cylinders. Loan losses are minuscule. New loan growth is solid. It doesn’t look like a stock that anyone would short. But if the market turns negative, it’ll be the high on the must-short list.

Royal Bank

Royal Bank (TSX: RY)(NYSE: RY) is Canada’s second largest bank by total assets, with almost $200 billion worth of mortgages on its balance sheet. Since it has most of its assets in Canada, it’s the most exposed to domestic issues, like a potential housing slowdown. If you take a look at profit growth in the last few years, it’s obvious most of it came from mortgages. Forget mass foreclosures, even a sustained slowdown in new loan applications would hurt the company.

TD Bank

In late 2013, TD Bank (TSX: TD)(NYSE: TD) surpassed Royal Bank to become Canada’s largest bank as measured by assets. It’s Canada’s third largest lender, leveraging mortgage brokers to strengthen its branch network. Although part of the bank’s recent success is because of its big exposure to the United States, TD still has more than $175 billion worth of Canadian mortgages on its balance sheet, and is hugely exposed to any Canadian economic problems.

Foolish bottom line

It seems as though every week a new prominent investor stands up and expresses concern about Canada’s real estate market. If these predictions come true, it’ll be a world of pain for Canadian bank investors. Since Canadian financials make up such a large percentage of the overall market, this has the potential to have all sorts of ripple effects. Whatever happens, it’ll be interesting.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.

Fool contributor Nelson Smith has no position in any stock mentioned in this article. 

More on Investing

Hands holding trophy cup on sky background

3 Growth Stocks That Could Be Huge Winners in the Next Decade and Beyond

Here are three top TSX growth stocks that may be worth a look, given the significant valuation declines these stocks…

Read more »

edit Back view of hugging couple standing with real estate agent in front of house for sale
Dividend Stocks

Why Real Estate Stocks Are a No-Brainer Addition to Your Portfolio

Real estate stocks, especially REITs, offer some distinct advantages over other types of stocks, making them must-have additions to most…

Read more »

Man data analyze
Stocks for Beginners

Beginners: 2 Market-Beating Stocks Just Getting Started

Brookfield Asset Management (TSX:BAM.A)(NYSE:BAM) and Constellation Software (TSX:CSU) are proven market beaters that could continue their ways.

Read more »

oil and natural gas
Energy Stocks

Small OPEC+ Oil-Output Hike: Buy More Energy Stocks?

Energy stocks could soar higher, because oil markets will remain tight due to the small production increase by OPEC+.

Read more »

Various Canadian dollars in gray pants pocket
Dividend Stocks

3 Top TSX Dividend Stocks to Buy for Monthly Passive Income

Top TSX stocks with monthly dividends now trade at cheap prices for investors seeking passive income.

Read more »

edit Person using calculator next to charts and graphs

Where to Invest $500 in the TSX Right Now

Long-term investors can look to buy stocks, including Suncor Energy and Shopify, as they are poised to outpace the broader…

Read more »

Canadian Dollars
Dividend Stocks

Create Free Passive Income and Turn it Into Thousands With 1 TSX Stock

If you can't afford to invest, you can certainly create passive income another way and use that to invest in…

Read more »

falling red arrow and lifting

2 Oversold TSX Stocks That Should Bounce Back

Stocks that are oversold without an external catalyst like a market crash or a weak sector might be risky buys,…

Read more »