The housing market had a surprisingly difficult first quarter that caught everyone in the media flat-footed … but real estate insiders sure weren’t fooled.
While bad weather in the northern states certainly was a factor behind several reports of declining sales or prices, it became the all-too-convenient industry excuse du jour for almost everything that went wrong.
And a lot went wrong in real estate. For instance…
- The first quarter saw the NAHB/Wells Fargo Builder Confidence Index — a reliable measure of how the homebuilder industry feels about its immediate and future sales potential — suffer its worst monthly decline in history, as its monthly reading dropped from 56 to 46. Any reading below 50 is historically negative.
- The very next day, the gloomy NAHB outlook was confirmed by a building starts report that declined a whopping 16% from the previous month.
- Pending home sales (i.e. homes under contract that have yet to close) were up 0.1% from December to January, according to the National Association of Realtors (NAR). But this still was a huge 9% below the January 2013 report. It got worse yesterday, when the NAR reported that its pending home sale index reached its lowest level since October 2011.
- Just this week, the Commerce Department reported that new home sales for February fell 3.3%, from January’s revised 455,000 to 440,000 — the worst action in five months.
- In addition, the Standard & Poor’s/Case-Shiller 20-city home price index released Tuesday declined 0.1% month-over-month for January. While it was 13.2% growth over January 2013, that still marked two consecutive months of slowed annual gains.
Meanwhile, Wells Fargo (WFC) and Bank of America (BAC), two of the largest lenders in the U.S., have recently laid off large numbers of their mortgage department staff.
In other words, this time, they aren’t waiting around for things to get worse.
Will Real Estate Spring Forward?
The feeling in the financial media — and one that is echoed as well by cheerleaders in the real estate industry, such as NAR — is that bad winter weather has merely caused a temporary glitch in the newest real estate bull market. When spring arrives, they fully expect the housing market to explode again.
But will it?
So much of the progress in the housing market over the past few years was triggered by investors snapping up foreclosures, short sales and other distressed properties at 60 cents on the dollar. Many of these homes were resold quickly, or “flipped,” at much higher prices, driving up home values. In addition, other cash buyers have purchased primary residences without appraisals, also sending prices artificially higher.
While these two factors are still ongoing, the percentage of total market sales among cash buyers has begun to slow. Should this continue, it poses a real problem because would be first-time homebuyers in the millennial generation are increasingly unable to purchase homes. Negative factors such as job downsizing, little to no savings, heavy student loan and other debts are impeding this generation from leaving their parents’ homes.
Incredibly, the real estate industry is responding by attempting to lower the minimum credit scores required to gain loan approval. In an effort to pump up the buyer pool, some mortgage companies, such as Carrington Mortgage Services, LLC, are now accepting subprime scores as low as 550. Carrington says that area of the housing market is “underserved,” and that by focusing exclusively on those borrowers, it can do a better job of working with the strongest buyers within that niche. (Carrington no doubt will be charging higher interest rates and perhaps fees to compensate themselves for the risks.)
This is a double-edged sword. Even if sales and prices increase this quarter or even by the end of the year, a return to lower expectations will invariably lead back to more loan defaults, short sales and foreclosures.
And that will, once again, take a bite out of real estate value.
Another important variable for real estate sales and prices are interest rates. As you can see from the accompanying chart of the 30-year mortgage rate, the general trend of interest rates has been higher since 2013. There seems to be a ceiling around 4.75%, but much will depend on how the FED continues their tapering policy over the coming months.
All in all, my outlook for the housing market, as well as real estate-related stocks, remains mildly bearish. I believe there will be an occasional positive report that could boost these stocks in the short-term, but I don’t see compelling numbers of new buyers or a vastly improving job market to propel sales higher over the coming quarter. While the spring figures should trounce those from this past winter, I believe spring sales will fall below their counterparts from a year ago.
Many homebuilder stocks such as Hovanian (HOV), Lennar (LEN), Ryland Homes (RYL) and KB Home (KBH) are looking absolutely dismal right now, and are trading well below their 200-day moving averages with poor relative strength. HOV is 23% below its highs within the past month. KBH is down almost 20%.
But these aren’t bargains. Investors would be wise to find stocks from other sectors that show more immediate promise over the next quarter until the housing market shows greater signs of life.
As of this writing, Ethan Roberts did not hold a position in any of the aforementioned securities.