The Federal Reserve may have been onto something when it lowered rates aggressively last week, as the housing market is showing signs of increasing stress, especially on the side of existing home sales. With housing accounting for 16% of GDP, things could get interesting in the next few months.
A familiar pattern in homebuilder earnings is emerging. It’s one in which companies beat or jus miss earnings, but do so with flattening margins while offering muted guidance. This comes at a time during which, as I discuss below, there is a bit of a fledgling panic amongst existing home sellers, who are starting to drop asking prices rather abruptly.
Take the most recent earnings from KB Home (KBH), where the company beat expectations but offered flat guidance for the rest of the fiscal year. In its earnings call, the company noted that demand for new homes remains high along with tight supplies, while adding that prices are starting to come down as incentives are rising. Moreover, it added that consumers are starting to be “hesitant” as persistent worries about inflation, and now the jobs market are starting to creep in.
KBH’s performance and remarks during the conference call go along with recent data which shows new home sales rising year over year but remaining volatile on a month to month basis. In contrast, pending home sales and existing home sales continue to fall. In addition, KBH’s observations echo the most recent readings of consumer confidence which came in well below expectations.
All of which brings the Fed’s “surprise” 0.5% rate cut and the likelihood of more rate cuts to the forefront and whether it will be enough to increase home buyer confidence. Furthermore, it seems as if the global economy is slowing, as the People’s Bank of China (PBOC) just lowered its rates in conjunction with other aggressive measures aimed at raising liquidity aimed at increasing activity in the Chinese economy. China and the U.S. central banks make five major economy central banks which have lowered interest rates recently as the U.K., Canada, and the ECB have been cutting rates for some time now.
So, as I’ve been saying, it’s still about that monthly payment, and what you get for it. It’s obvious that people who can’t afford to buy are willing to pay premium, rents for nice digs while those who can buy a home are more interested in new homes versus older homes which, in some cases cost as much as a new home while often needing repairs and remodeling. Moreover, this type of action confirms and adds a new wrinkle to the structural aspects of the housing shortage, while displaying the ability of builders to diversify into both rental and single family structures, allowing them to capture both sides of the market.
KBH Stock Tests Important Thesis
Aside from the business and homebuilder repercussions, from a trading standpoint, what happens with the shares of KBH is important. That’s because just as we saw with Lennar, a few days ago, and with DHI with its earnings, the market’s initial reaction was to sell off, while a few days later, the shares were bought on the ensuing dip. Most likely, a significant portion of the buying came from DHI and LEN’s buyback programs. So, let’s see what happens with KBH in a few days. If the shares come back, it will likely be due, at least initially, to the company buying back its own shares.
Specifically, the 50-day moving average has been an excellent place to enter the shares on dips since July, 2024. We’ll see if this time holds up as well. On the plus side, there is also a very large VBP bar in the near vicinity of the 50-day line ($80-$82). Together the confluence of these important indicators suggests these price points are where big money decisions will be made.
On the Ground – It’s Deader than a Doornail. Sellers Panic.
New home sales are flat, and this morning’s pending home sales data (flat month over month, and down 4.3% year over year) are confirming what I’m seeing. The situation seems to be worsening rapidly in the Northeast where pending sales fell to their lowest point since the start of the pandemic in 2020. Sales in the West, Midwest, and South rose.
My weekly rounds are a bit scary right now as all I’m seeing is apartment complexes which are nearing their completion, while single family home lots are being slowly developed with little more ongoing than early stage plumbing to connect to city facilities. That means that apartment supply is about to rise dramatically and competition, and likely drops in asking rents may follow. Of course, that would mean that sellers of existing homes are about to face stiff competition.
It's already evident as existing home listings are starting to show a noticeable drop in prices. Some multiple times in short periods of time.
Newly built homes, the few that I’m seeing, are still For Sale while prices are being quietly lowered as well. Yet, no flurry of activity is evident. I’m seeing a few more existing homes hitting the market, and Open House signs on weekends. But as with new homes, there isn’t a whole lot of action evident.
On the commercial side, the nifty timber project on the busy intersection in the booming DFW suburb of Frisco, I’ve been watching is now fully landscaped. I am seeing some action there as some finishing out is becoming evident. It will be interesting to see if they’ve bagged a large corporate client.
The apartments in the same mixed use project are about halfway done. We’ll see how things develop there.
Bonds and Mortgages – Watching the PCE Number
The U.S. Ten Year Note yield (TNX) is stubbornly rising after the Fed’s rate cut. I’m not surprised as the bond market correctly predicted the cut. If TNX remains below 3.9%, there is low risk to stocks.
Mortgage rates just made a new low, clocking in at an average of 6.08%, at levels not seen since October 2023. On the other hand, they may rise slightly next week if bond yields remain above their recent lows, especially if the PCE number due out on 9/27/24 is above expectations. Such as number would likely spook the bond market as it could be a tangible signal that, as many currently fear, inflation is about to surge, which of course would be a big negative since the Fed is promising to cut interest rates further over the next year. You can voice your expectations for the PCE data in my most recent poll.
Homebuilders and REITs
The iShares U.S. Home Construction ETF (ITB) remains in an uptrend, and has broken out to a new high recently. It is due for a pause, but so far money keeps moving in as supply and demand continues to favor homebuilders.
The iShares U.S. Real Estate ETF (IYR) is proving to be more interest rate sensitive than ITB as the pop in bond yields is taking some wind out of its sails. The consolidation I’ve been expecting in this one is likely to lead to a test of the 20-day moving average in the short term.
Bottom Line
Homebuilders remain in the supply/demand sweet spot, but outside influences such as consumer concerns about the economy and the jobs market are starting to seep into their growth rates. The big question is whether lower mortgage rates will counter their fears.
It all adds up to increasing competition in the housing market with residential REITs and homebuilders having the upper edge in a rapidly shifting market.
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