CIBC’s Rubin takes perilous tone on financial markets

Things are going to get a lot worse in Canada and the U.S. if U.S. legislators don’t realize their folly in rejecting a bailout package, says a new report from CIBC World Markets.

This type of message is a stark turnaround in tone from the chief economist at CIBC World Markets, Jeff Rubin, who has a reputation for being more of a bull than a bear. Rubin is deeply concerned that the U.S. government has made a critical error in rejecting the bailout, and he says it’s Main Street, not Wall Street, that will feel the greatest effects of the fallout.

“In acquiescing to a skeptical Main Street, Congress voted thumbs down on the Wall Street bailout package, leaving the country’s, if not the world’s, financial system exposed to further price declines in the U.S. housing market,” Rubin says. “Notwithstanding the growing list of banking casualties in the U.S. and ballooning credit spreads, particularly for financial institutions themselves, Wall Street’s crisis is yet to make a big splash on Main Street.”

Rubin says if Main Street is the barometer by which Washington is measuring when to intervene, the crisis may drag on for some time.

“It is the very benign nature of today’s downturn on Main Street that could pose the greatest danger tomorrow,” he says. “Without a material worsening in the unemployment rate or GDP growth, Main Street could well remain unimpressed with Wall Street’s balance sheet ills. And it could still take a quarter or two before average Americans feel the full impact of what is happening to their financial institutions.”

In the meantime, the world’s financial system may not be able to “tread water” that long, he points out.

“That’s why it is so pivotal that a package come now, before systemic damage is sustained,” he says.

As yesterday’s trouble on the Toronto Stock Exchange showed, Canada is far from immune to the spillover effects of this crisis. Rubin says the TSX is more leveraged to the crisis than either the Dow or the S&P 500.

“Fears of a financial market meltdown do not bode well for investor sentiment towards commodities,” states Rubin. “The recent wild ride in oil prices underscores how concern over toxic balance sheets on Wall Street can spill over into other markets, even where there is little to fundamentally connect them.”

Rubin expects Canada’s economic fundamentals to weather the storm, though. The CIBC World Markets notes that while housing prices in Canada are cooling, there is little worry of a U.S.-like meltdown in prices. Canadian housing prices have not followed the path of U.S. housing prices, which have been falling for two years, with a cumulative decline of 18% to date on their way to an eventual correction of 25%.

The report says by almost any measure, American households entered the current housing crisis from a more vulnerable position relative to their Canadian counterparts, carrying a heavier debt load and a much lighter net worth position.

The report stresses at the peak of the cycle, sub-prime and Alt-A mortgages accounted for a third (33%) of originations in the U.S. market, whereas in Canada, at their peak, non-conforming mortgages reached 5.4% of originations.

Mark Noble, Advisor.ca