Too much exposure to real estate can be toxic to your financial health.
So do a personal inventory right now to see how much of your net worth is tied to the housing market. It's not just your house. We've seen lately how your savings and investments can also be affected by what's happening in the housing market.
Housing has carried the Canadian economy for years, but there are signs of stress that go beyond the debate about how big a bubble the real estate market in Toronto and surrounding cities is.
Unnerved by recent events at alternative mortgage lender Home Capital, people have been pulling money out of high-rate savings accounts offered by three of the company's subsidiaries, Home Bank, Home Trust and Oaken Financial. The three are members of Canada Deposit Insurance Corp., which protects deposits of up to $100,000.
Read more: The rise and fall of Home Capital
Another sign of stress can be seen at Calgary-based Walton Group, a private real estate investment firm that sought protection from creditors Monday for several subsidiaries while owing hundreds of millions of dollars to investors. As detailed in a recent Globe and Mail report, there have also been problems with investment vehicles called mortgage investment corporations, or MICs, and syndicated mortgages. Both are a way for investors to generate income at levels well ahead of bonds and guaranteed investment certificates.
Falling house prices might seem the big risk in real estate today. But recent events show how a much broader range of your financial assets can be affected. Limit the potential for contagion by going line by line through your holdings.
Start with savings – your emergency fund, your travel fund, your renovation fund or whatever. Find out whether the bank holding your savings is a diversified bank/trust company/credit union, or mainly a mortgage lender like Home Capital. Be strict about staying below the CDIC limit with accounts at banks that focus on mortgages, or consider alternatives if you want to avoid the hassle and uncertainty of having your money at least briefly tied up if a financial institution collapses.
Do the same check on your guaranteed investment certificates. If you have a lot of housing exposure in your personal financial inventory, maybe you buy GICs from financial institutions that aren't mortgage specialists. If you already own a GIC from one of these banks or trust companies, penalties will apply if you redeem before maturity. Again, deposit insurance offers some assurance for GIC holders.
Exposure to housing in your investment portfolio is a particular issue if you've put money in vehicles based on commercial and residential mortgages or real estate development. These investments are not inherently bad, although investors have lost money in some. But it can be risky to stack more exposure to real estate on top of what you're already getting by owning your house and by holding the kind of stocks and bonds that typically appear in investor portfolios.
The S&P/TSX composite index, the definitive benchmark for our stock market, is 33-per-cent weighted to the big banks and other financials. Preferred shares and corporate bonds are sectors with even more of a tilt to financials. Dividend funds can be as much as 60 per cent weighted to financials.
Don't try to purge all financial stocks from your portfolio. It probably can't be done and, anyway, you don't want to. While the Home Capital situation has negatively affected sentiment toward bank stocks lately, they're great long-term money makers.
Think instead of how the various components in your portfolio fit together. If your Canadian stock market ETF is big on financials, don't pair it with bond and dividend funds that are likewise. Diversification tip: U.S. and international markets have less of a skew to financials.
The bigger the slice of your net worth represented by your house, the more cautious you should be about additional exposure to real estate. Fight the temptation to draw the faulty conclusion that because housing has been a great investment for years now, it's safe to over-indulge.
The housing lobby – all the people who profit from a hot real estate market – is very good at explaining why current home prices are justified by factors like low interest rates, immigration and restrictive government policies on developing land for home building.
But we've already seen how small ripples in the real estate sector can affect our finances. Expect worse if housing prices fall hard.