Daily Gains Letter

Is the Housing Market Recovery a Mirage?

By for Daily Gains Letter |

Housing Market RecoveryAs each day passes, more and more evidence builds up against the housing market in the U.S. economy. A significant amount of data is suggesting that the housing sector is cooling and will not continue to increase like it did in 2012, when institutional investors came in and bought homes in bulk, causing prices to skyrocket in some areas.

When I am looking at the housing market, I want to see home buyers. If the number of home buyers in the market increases or there are indicators that suggest it will increase, then I see no problem in thinking the housing market in the U.S. economy is going to see an uptick. But as it stands, this is not the case; home buyers are shying away from the housing market.

The first evidence we’ve seen is through mortgage application activity tracked by the Mortgage Bankers Association. For the week ended November 28, applications for home loans in the U.S. economy declined 12.8% from the previous week. They have been declining for five consecutive weeks and now sit at their lowest level since September. If buyers were rushing into the U.S. housing market, we would see these numbers soar higher, not edge lower. (Source: “U.S. mortgage applications slide for fifth straight week: MBA,” Reuters web site, December 4, 2013.)

Secondly, existing home sales in the U.S. economy are suggesting a very similar phenomenon—buyers are not present. I look at first-time home buyers to see demand and, as I have said before, they are just not excited to buy. (See “More Evidence Housing Market Is Turning Cold.”)

Last but not the least, another indication that home buyers are running away from the housing market is the homebuilder companies’ cancellation rate (the rate of home buyers canceling their purchase contracts compared to overall sales). Consider Lennar Corporation (NYSE/LEN), a company involved in residential construction. In the third quarter of this year, the company’s cancellation rate was 18%; in the second quarter, this rate was 14%. (Source: “Lennar Reports Third Quarter EPS of $0.54,” Corporate-IR.net, September 24, 2013.)

Just like in the stock market, there’s too much optimism hovering around the housing market. When I look at the number of home buyers, I get worried and continue to believe that the U.S. housing market will slow and not see growth like that of last year. Please note that I am not saying that we are going to see an outright collapse in the housing market; I just see a slowdown and possibly a few months of declining prices.

If the housing market derails, those who are closest to it will be the ones facing scrutiny. One example would be the homebuilder stocks and their share prices. Without home buyers rushing to the housing market, homebuilders will have troubles selling their projects, and this may lead these companies to either lower their prices or just outright cancel their projects—both result in lower profits.

However, investors may be able to profit from this by shorting exchange-traded funds (ETFs) like the SPDR S&P Homebuilders ETF (NYSEArca/XHB).

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