Tread lightly in this area


The housing market is entering a recession…don’t expect prices to drop much…check our ITB homebuilder exchanges…short term beware

While there is debate over whether the economy is in a recession, there is one sector that officially fits the bill…

Lodging.

From Robert Dietz, Chief Economist at the National Association of Home Builders (NAHB):

The Federal Reserve’s monetary policy tightening and persistently high construction costs caused a real estate slump.

Yesterday we learned that the National Association of Home Builders/Wells Fargo housing market index fell 6 points this month to 49. The index has now seen eight consecutive monthly declines.

The word “recession” comes into play because of the reading below 50. Anything around 50 is positive, anything below is negative.

This negative reading is the first since the start of the Covid pandemic. Prior to that, there had been no negative reading since June 2014.

Meanwhile, we learned this morning that residential construction in the United States has fallen to its lowest level in almost a year and a half. Housing starts fell 9.6% to a seasonally adjusted annual rate of 1.446 million units in July. This is the lowest level since February 2021.

Buyers are staying away for one reason: astronomical prices.

Of CNBC:

The biggest hurdle for buyers right now is affordability.

House prices have been climbing since the start of the pandemic, and the average 30-year fixed mortgage rate, which had reached historic lows in the first part of the pandemic, is almost double what it was at the start. of this year.

Recession or not, don’t expect house prices to fall

Potential buyers are reacting to record house prices and mortgage rates above 5% by walking away from the market.

Econ 101 tells us that “less demand” should reduce prices. And yes, we are seeing lower prices in various markets across the country.

But if you’re waiting for the price of your dream home to plummet, say 30%, good luck. You see, in the same way that many buyers are now walking away from the table, so are sellers.

According to a new report from Redfin, a growing number of homeowners are simply reluctant to put their homes on the market. That’s fueling the biggest drop in home listings in more than two years.

In fact, new home listings for sale fell 12% year-over-year in the four weeks ending August 7. This is the largest drop since June 2020.

Meanwhile, the latest Fannie Mae Home Buying Sentiment Index shows the share of homeowners who think now is the time to sell is falling. In May, that reading was 76%. Last month, it had fallen to 67%.

Simply put, owners also waive offers. Thus, if buyers and sellers leave the market, the relationship between supply and demand does not change dramatically.

Now, the good news for homebuyers is that overall housing continues to grow modestly. The number of homes for sale is up 4% year over year.

More encouragingly, the number of property offers written by Redfin agents facing competition from other buyers fell to 44% in July. This is the sixth consecutive monthly decline and the lowest share on record. In June, the number was almost 51%. In May, it was almost 64%.

But looking at the bigger picture, the national housing inventory remains near historic lows. And that means there are still more people wanting houses (at reasonable prices) than there are houses available.

Recent data shows why house prices will blow but not crash

In mid-June, the median home sale price hit a record high of $395,500. Since then, prices have fallen by 4.1%.

And how did potential buyers react to these slightly lower prices?

Well, the Google search for “homes for sale” is up 12% since the end of May.

We see a similar increase in buying interest if we look at the seasonally adjusted Redfin Homebuyer Demand Index. This is a measure of requests for home visits and other home buying services from Redfin agents. That’s up 17% from mid-June.

Eventually, prices might go down, but don’t expect a crash. There are too many potential buyers looking sideways, waiting for even a whiff of a reasonable price.

Here’s how Bankrate’s chief financial analyst, Greg McBride, put it recently:

While the recent pace of home price appreciation is not sustainable over the long term, it does not mean that prices are likely to fall sharply.

Property prices can move in spurts – like now – and then show relatively little change over a period of years.

A price cap is the most likely outcome.

And, in fact, in the past month, about 19% of homebuilders said they cut prices to boost sales. But the median price reduction is only 5%.

So what does this mean for homebuilder stocks?

Well, there are clearly some near-term headwinds facing the sector.

High prices and mortgage rates are scaring off many buyers…months of high commodity prices have made construction more expensive…the threat of a recession is making homebuilders nervous about the financial situation of buyers in the coming months come…

But at the end of the day, the United States needs more housing. This is long-term bullish for homebuilders, despite headwinds.

Additionally, if inflation data continues to show signs of slowing, this will reduce the pressure on mortgage rates. This will add even more support on the demand side, which will boost homebuilders and their stock prices.

Back to NAHB Chief Economist Dietz on this:

The total volume of single-family housing starts will show a decline in 2022, the first such decline since 2011.

However, as signs that the inflation rate is close to peaking multiply, long-term interest rates have stabilized, which will provide some stability on the demand side of the market over the next few months. month.

So how are these conflicting pressures playing out for homebuilding stocks?

Below we take a look at the iShares Home Construction ETF, ITB. It owns many residential construction heavyweights, including DR Horton, Lennar, PulteGroup, Home Depot, Toll Brothers, Sherwin-Williams and Lowe’s.

As you can see, after throwing up in June with the broader market, it has been in rally mode.

Source: StockCharts.com

Back in our April 20 Digest, we suggested that aggressive traders could jump into an ITB trade. The idea was that sentiment had become so negative and the sector had sold off so much that any good news could send the ETF higher.

ITB climbed higher after this Digest, to sell with the rest of the market in June. However, given the rally since then, this aggressive ITB trade is now up around 4%.

If you didn’t enter the ITB trade months ago, be careful not to buy today

Below we look again at ITB’s chart, but we add its RSI indicator.

RSI stands for “Relative Strength Index”. It is a momentum indicator that measures how overbought or oversold an asset is.

Below, note that ITB’s RSI has trended lower over the past few weeks at the same time as ITB’s price has been trying to climb higher.

Chart showing ITB stock rising as its RSI begins to decline in a bearish divergence

Source: StockCharts.com

This divergence is bearish.

This suggests that the bullish leg on the upside is weakening and the ETF is potentially on the verge of a bearish reversal. This could mean more attractive entry prices in the near future.

That said, beyond the short-term downside potential, we like the homebuilder trade for aggressive investors willing to take a bit more risk. And we are not the only ones.

Of Invest:

New home sales have bottomed out, making it a great time to shop in the construction industry, says John Lovallo. He is Senior Equity Research Analyst at UBS.

[Quoting Lovallo] “Homebuilders said they were seeing early signs of stabilization. Can homebuilder stocks work before rates change? It is an early sector and the worst seems to be integrated. So my answer is, yes they can.

Bottom line: On the other side of this near-term weakness in housing and homebuilding is a boom in profits. It’s not too early to prepare your game plan.

We’ll keep you posted here in the Digest.

Have a good evening,

Jeff Remsburg

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