The housing market is a key indicator for investors, regardless of whether they have direct exposure to that market. A strong real estate market in the U.S. is a reflection of a strong consumer economy, which is key for economic growth and market performance.
One of the most important predictors for a strong housing market (and therefore a positive stock market) is labor. New jobs and personal-income growth have historically driven performance in both sectors. Today’s ADP jobs report was a good hint that there is still relatively good news for the job market.
According to ADP, the U.S. economy added 237,000 new jobs in June, with 19,000 of them coming from the construction industry. That is good news, but it comes with a few caveats.
The most important negative factor has been the fact that although hourly wages are improving, the rate of that improvement has been very slow.
You can see in the below chart the percentage change (blue line) in hourly wages on a year-over-year basis compared to the change (red line) in housing prices. This week’s Case-Shiller housing price index further confirms that the trend in rising home prices is ongoing, with a change of 4.9% over the last year.
Although wages and home prices have had positive changes since the 2012 when home prices began to rise again, the rate of change between the two indexes is very different. The growth rate in hourly wages is well below long-term inflation trends, which could put significant pressure on housing prices even if job growth continues.
While this issue is a problem, it’s not enough to completely spoil the economic and market trends. What it does do is put investors in a situation where they are more likely to overreact to bad news in the short term. Last October was a good example of the kind of price-shock we are a little worried about. When traders panic about growth, housing sells off first. Homebuilders and related sectors outpaced the losses in the broader market by a factor of 2-to-1 during the late summer/fall of 2014.
That leading relationship between housing and the rest of the market can actually be very helpful, though.
Economic reports over the last few weeks in the housing and labor sector have been generally positive, with new homes, homebuilders and housing prices looking relatively good. In that respect, we don’t have any early warning signs of a general slowdown that would affect the market.
However, we also have to account for the embedded lag with most economic reports and watch the general price movement within the sector. This is where the situation starts to look a little more promising.
As you can see in the next chart, the popular SPDR S&P Homebuilders ETF (XHB) — which also indexes basic materials, durable goods and home improvements stores — has been forming an inverted “head-and-shoulders” pattern that retested the neckline breakout on Monday.
We will admit that this pattern is a little borderline if prices drop again, but, on the other hand, a break beyond June’s highs would be excellent confirmation of a continued trend.
As we have discussed, there is enough uncertainty in the fundamentals to be careful about any entries, but if the European situation cools off, this sector could be a great “fishing hole” for new bullish positions.
InvestorPlace advisers John Jagerson and S. Wade Hansen, both Chartered Market Technician (CMT) designees, are co-founders of LearningMarkets.com, as well as the co-editors of SlingShot Trader, a trading service designed to help you make options profits by trading the news. Get in on the next SlingShot Trader trade and get one free month today by clicking here.
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