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Real Estate Staying Strong

Housing starts keep climbing … home renovation companies are outpacing tech … an income-oriented defensive real estate play

As the nation reopens, housing is well-positioned to lead the economy forward.

Inventory is tight, mortgage applications are increasing, interest rates are low and confidence is rising. And buyer traffic more than doubled in one month even as builders report growing online and phone inquiries stemming from the outbreak.

So said Dean Mon, Chairman of the National Association of Home Builders (NAHB).

Last month, homebuilders saw their strongest June sales since the last housing boom. Sales of newly built homes jumped 55% year over year.

It was also the highest pace of sales growth since the height of the boom back in 2005, with 57% of homebuilders increasing net prices.

Meanwhile, mortgage rates are setting new all-time lows.

Last Friday, the average rate on the 30-year fixed mortgage fell to another record low at 2.87%, according to Mortgage News Daily. Some homebuyers with good credit were getting rates as low as 2.375%.

So, what’s behind this housing surge?

As we first reported in our June 18th Digest, the following explanation from the Mortgage Bankers Association sums it up cleanly:

The housing market continues to experience the release of unrealized pent-up demand from earlier this spring.

In today’s Digest, let’s revisit the opportunity in the housing market.

But then let’s switch gears and look at a defensive real estate play — one that makes you the landlord of the most stable tenant around.

Let’s jump in.


***The housing boom that was believed to be crushed was simply delayed

 

As 2019 turned into 2020, the housing market appeared poised to enjoy a record year.

U.S. existing home sales were up … average interest rates on a 30-year fixed mortgage was relatively low … there was a shortage of new homes on the market … and expectations were that the Fed would keep rates low for all of 2020.

Everything appeared bullish for a U.S. housing boom.

Of course, we all know what happened instead — the coronavirus kneecapped the housing market along with the rest of the U.S. economy.

But while the fear was that the coronavirus would destroy the personal balance sheets of American homebuyers, destroying the housing market, instead, it has become clear that the pandemic just bottled up demand …

And that demand is now driving a housing surge.


***We’re seeing tailwinds behind home builders and home renovation companies

 

In our prior Digest focused on opportunities in U.S. housing (June 18th), we highlighted ITB. It’s the iShares U.S. Home Construction ETF, holding construction heavyweights including D.R. Horton, Lennar, and Pulte.

Since we put ITB on your radar mid-June, it has climbed 13% compared to the S&P’s 4%.

 

 

If we pull further out to evaluate ITB’s gains since the stock market lows of late March, the gains are even more impressive.

Though it fell harder than the S&P from February-highs to March-lows, ITB has surged much higher.

Below, you can see it exploding 113% since late March, compared to the S&P’s 44%.

 

 

Two weeks ago, we received news supporting more gains going forward. Housing starts jumped 16% in June from the prior month.

This is in-line the following assertion from homebuilder Lennar’s executive chairman, Stuart Miller, last month:

… the housing market has proven to be resilient in the current environment.

We expect this trend to continue and for housing to be a significant driver of employment and rebound for the broader economy.


***Turning toward home renovation companies, let’s look back at Home Depot

 

We highlighted Home Depot in our June Digest as another stock benefiting from the housing surge, as homeowners look to nest during lockdowns.

While big-tech returns have nabbed the headlines, it might surprise you that Home Depot is up 24% in 2020 while the S&P is flat.

 

 

What you might find more surprising is that Home Depot is beating many tech stocks.

Below, we compare HD to XLK, it’s the SPDR Technology Select Sector Fund, holding Microsoft, Apple, Intel, NVIDIA, and Paypal, among other marquee tech names.

As you can see, HD is up 66% since the late-March lows, compared to XLK’s 52% gains.

 

 

Here’s Mortgage Professional America explaining what’s behind this:

As a result of the coronavirus shutdown that has forced people to stay put in their homes, Americans have become motivated to tackle home renovation projects this year.

Around 73% of homeowners want to make home improvements in 2020 and intend to spend an average of $11,851, according to a LightStream survey.


***Switching gears, what might be an option for an income investor wanting a more conservative way to play real estate?

 

When we look at single family homes, homebuilders, and home renovation companies, we’re generally buying for growth.

After all, unless you’re renting your home, you’re getting no income when you purchase a home.

And homebuilders themselves usually don’t pay big dividends. ITB, which we profiled above, only pays a 0.53% yield.

Home renovation companies are better — for example, Home Depot’s yield is currently around 2.25%.

But can we do better than this? After all, what about the big rents and mortgage payments that are a part of the housing industry?

From that angle, we’d broaden our search to consider REITs.

REITs are businesses that own income-producing real estate in all sorts of real estate sectors — apartments … offices … health care related properties… and yes, single family homes.

Now, given the surge in housing today, might residential REITs be a good option?

In short, perhaps down the road, but today, caution is needed.

To illustrate why, take Two Harbors Investment Corp, a leading residential mortgage REIT.

As we noted in yesterday’s Digest, roughly 14 million renters either didn’t pay the rent last month or delayed their payment. This is after similar skipped or delayed payments in May.

A quick look at Two Harbors’ chart shows what the anticipation of this can do to a market price.

As you can see below, the REIT fell more than 80% in the March crash. Though it has rallied since, it’s still down 62% on the year.

 

 

Okay, so we need to tread carefully with mortgage REITs. What if we get a bit looser with our real estate focus and expand to commercial office space? Could we find a relatively safe income play there?

Unfortunately, we see a similar crash and muted rally from many commercial REITs.

This makes sense, given how many companies have indicated they’ll be continuing with remote work even after lockdowns end. That obviously means reduced revenues for commercial landlords.

To illustrate, take CIM Commercial Trust. It invests in Class A office properties in urban markets like San Francisco, Washington DC, and Los Angeles.

As you can see below, CIM fell over 55% in March, and is still down 24% on the year.

 

 

In both cases, the problem reduces to a sudden shortage of tenants who need space, and will have no problems paying the rents.

Enter our resident income investing expert, Neil George.


***Neil has found a real estate investment trust (REIT) that benefits from the most stable, deep-pocketed tenant around — the U.S. government

 

From Neil’s July issue of Profitable Investing:

The U.S. government has never gotten smaller. It just keeps expanding. And while plenty of politicos may complain, it’s near impossible to see the government shrinking …

The Federal government alone spends over $3.7 trillion in the official budget, and that doesn’t count the additional trillions of dollars in additional military activities or the trillions more deployed as part of the CARES Act and related economic recovery efforts.

Nor does it count the trillions more that are in the portfolio of the Federal Reserve, which may reach $10 trillion on its balance sheet as part of the past and current financial support for the credit markets.

All of this means that companies that can tap the government for contracts and support can profit and are more resilient during economic and market downturns.

So, what REIT has Neil found that fits the bill?

Back to Neil:

Easterly Government Properties (DEA) … It’s a REIT that calls the U.S. government its prime tenant. During this year’s lockdowns, DEA kept getting rent checks like clockwork.

Easterly focuses on acquiring, developing, and managing Class A commercial properties leased to United States Government agencies.

It’s recouped all its losses on the year. And as you might expect given Neil’s focus on income, Easterly pays a strong dividend — 4.5% as I write.

This is just one of a handful of high-yielding REITs in Neil’s portfolios. To learn more, click here.

As we wrap up, it appears there are more gains in store for housing and home-goods stocks. But if you’re an income-starved investor who’d rather play landlord and earn a healthy cash-flow stream, give Easterly a look.

We’ll continue to keep you updated.

Have a good evening,

Jeff Remsburg


Article printed from InvestorPlace Media, https://investorplace.com/2020/07/real-estate-staying-strong/.

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