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Information Pending: A Fresh Look at the Housing Sector

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October 4, 2017
Pending Home Sales Data
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If the stock market is truly a reflection of the economy, than it might appear that things are humming along nicely. The S&P 500 (SPX) Index ended September near recent record highs and rose in Q3, continuing an eight-quarter winning streak. In fact, at its current pace, the SPX is on track to post its ninth-consecutive positive year, tying the record set from 1991 through 1999.

Despite all the encouraging numbers, however, there was a bit of data from the National Association of Realtors (NAR) last week that could possibly cast some doubt on the future of one of the economy’s main drivers — the housing sector.

Potential Headwinds Coming?

In August, the NAR’s monthly index — which tracks signed contracts to buy existing homes — fell 2.6% compared with July. What’s possibly more concerning is that this was the fifth drop in the last six months for the index, which means it doesn’t appear to be an outlier event, but possibly the beginning of a trend.

That caused Lawrence Yun, chief economist for the NAR, who had originally forecast sales of 5.57 million existing homes for 2017 — an increase of 2.2 percent over the previous year’s totals — to downgrade his full-year forecast to 5.44 million, slightly below 2016’s pace.

In addition, the weakness in sales was consistent across every region, all of which are tracking below last year’s number, though those affected by hurricanes Harvey and Irma were particularly hard hit. In Yun’s words, the current housing market has “essentially stalled.”

The only silver lining here may be that most of the closings postponed due to the storms could potentially show up in the 2018 numbers.

The Data Aren’t Showing Up in The Market – Yet

Despite the gloomy numbers, the housing sector is not showing much in the way of weakness. At least not yet. The S&P Homebuilders Select Industry Index (SPSIHO), which tracks the sector, finished the last week of September up more than 18% from a year ago.

That same strength is showing up among individual homebuilder stocks, as well. Three of the more widely followed - Lennar (LEN), Toll Brothers (TOL), and KB Homes (KBH) – are trading not only near 52-week highs, but near multi-year highs.

These companies, like their competitors, might be caught in a catch-22, brought on by the very market strength that has propelled their stocks higher. With existing home prices almost 6% above year-ago levels, home builders are trying to maximize their revenue by building more higher-end homes, effectively cutting out first-time homebuyers – a traditional driver of overall new home sales.

According to the U.S. Census, there are currently eight million more renter-occupied homes than at the peak of the housing boom in 2007. Those renters are most likely the ones who will be looking for affordable homes if and when they decide to purchase. But in August, only 2% of new homes were priced under $150,000, and just 14% were under $200,000.

Builders are mostly staying away from building low-priced homes, according to Inman News, an independent publisher that's one of the leading news sources for realtors. With the increased costs of land, labor, materials, and legal costs related to regulatory compliance, builders often have a hard time making the numbers work for them.

The recent slowdown in sales raises concerns that once mid- and up-market homes buyers are exhausted, prices – and profitability – might be forced lower in part because all those renters who might normally think of buying homes might not be able to find ones they can afford. Only time will tell, but you’ll likely see signs of it in the market first, so keep a watch on the housing sector.

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