Daily Gains Letter

Recent Data Screams Trouble Ahead for Housing “Recovery”

By for Daily Gains Letter |

Recent Data Screams Trouble Ahead for Housing “Recovery”The U.S. housing market is starting to show signs of stress, something I have been expecting for some time. Will the housing market see negative growth? Time will tell, but as we are marching ahead, one thing is becoming very clear: if it grows, the rate won’t be as robust as we saw during 2012.

In 2012, the S&P Case-Shiller 20-City Home Price Index—an indicator of the U.S. housing market that tracks home prices in 20 major cities—increased 7.08%. The index stood at 136.88 in January, and in December, it settled at 146.88. (Source: “S&P Case-Shiller 20-City Home Price Index,” Federal Reserve Bank of St. Louis web site, August 27, 2013.)

The issues at hand are the problems facing the housing market—namely, home buyers’ willingness to buy and the increasing inventory.

Home buyers had a good incentive to get into the housing market in 2012 because of low mortgage rates. Consider the standard 30-year fixed mortgage reported by Freddie Mac: in July of 2012, it was 3.55%, and in December, the rate went as low as 3.35%. (Source: “30-Year Fixed-Rate Mortgages Since 1971,” Freddie Mac web site, last accessed August 28, 2013.)

Fast-forward to July of this year: rates have increased more than 23%, standing at 4.37%. Those who are looking for a home are driven away from the housing market by rising mortgage rates, making homes less affordable.

That said, I agree the rates are nowhere close to what they were back in the 1980s, but they have shot up really quickly in a very short period of time. You also have to consider that home buyers in the U.S. economy are still in trouble due to the number of low-wage-paying jobs and the general increases in prices.

Adding to the worries, the inventory in the U.S. housing market also continues to increase. In January, the U.S. housing market had a 3.9-month supply of homes. Fast-forward to July, and this number has increased 33% to 5.2 months. (Source: “Monthly Supply of Homes in the United States,” Federal Reserve Bank of St. Louis web site, August 23, 2013.)

At the very core of it, this is simply an issue of supply and demand. It’s basic economics: when the supply increases and the demand diminishes, the price usually heads lower. Rising mortgage rates are putting a dent in the demand, while inventory is adding to the supply.

For investors, this is a warning sign to be careful when getting involved in companies that are heavily reliant on the housing market. Going forward, if the housing market sees troubles, then companies in the sector will show that in their corporate earnings—and ultimately, in their stock prices.

We have already started to see the sell-off in a few places. Consider the chart below of the Dow Jones U.S. Construction Index: this index tracks companies like Lowes Companies, Inc. (NYSE/ LOW) and The Sherwin-Williams Company (NYSE/SHW).

JUSHIB Dow Jones US Home Construction Index Chart

Chart courtesy of www.StockCharts.com

It has lost all the gains made in 2013 and is currently trading where it was near the end of 2012.

For those who hold companies closely related to the housing market in their portfolio, they should use the basic portfolio management techniques. Investors should consider taking some profits off the table, thereby never giving up what they have already gained, or at least cutting their losses. If investors are hopeful and wait for things to turn around, they risk putting a huge dent in their portfolio in the meantime, while also missing out on other opportunities.

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