Yesterday I wanted to pull up a quick list of homebuilder stocks. Naturally, I Googled ‘homebuilder stocks’. The top result for that search is an MSN Money article Insiders are bailing on home-builder stocks by Michael Brush posted 9/3/2003. Michael is a friend / acquaintance of mine, one of my favorite financial writers and an all-around down to earth guy. He writes good well-meaning columns and does his homework.
The gist of the article was, as the title suggests, that homebuilder insiders were lightening their load of shares in their own companies. He notes that at that time the homebuilder execs were still trumpeting the industry despite the selling. He talks about rising mortgage rates, which were turning higher just about that time, having bottomed mid 2003. The Fed began its long slow climb from its then 1% overnight rate in the spring of 2004, but it was assumed back then that 1% was a bottom and therefore interest rates in general could only rise from that point forward.
Michael concluded the article saying, “Given the potential negatives for the sector, it makes sense to wait patiently — very patiently — before getting into these stocks.”
This is one case I’m not being critical of the author. If I took a hard look at my own past articles I could most certainly dredge similar ones in which I turned out to be quite wrong. What happened next for the homebuilder stocks was that they more than doubled in price over the next two years, though they’ve gave most of those gains back since, in the last six months.
Obviously, in hindsight September 2003 was a great time to buy homebuilders, at least for a while. But homebuilder prices went against everything we think we know about economics. The intuitive conclusion every economist would posit is that you should sell homebuilders in a rising rate environment and buy them when rates are falling. In reality homebuilder stocks rose parallel to interest rates for two years, against fundamental economic beliefs, against fundamental analysis, and against selling insiders.
What tools are at our disposal to predict such an event? Deductive reasoning.
In hindsight we can look back and see that home prices and real estate in general was being driven in part by a speculative fervor set in motion by the Fed’s taking overnight rates nearly to zero. But I think there was more to it than that. I think the largest reason was a fundamental macro factor that largely went overlooked. The economy was in recession unofficially from 2001 through 2003. People who had jobs during that period were happy just to keep them.
But after three years of being cooped up, as soon as the job market began to improve people began to job hop again. And job-hopping translates to home sales, and since most people hop to jobs for money, not less (this author excluded), they tend to upgrade to bigger and better homes too.
Thus rising mortgage rates were overshadowed and ignored in an environment in which interest rates were still very low historically, incomes were rising (for many people), and therefore there was a sharp increase in demand for homes.
The following charts illustrate this path. Most noteworthy is the number of quits, which is a Bureau of Labor Statistics measure of employee turnover. The quits data parallels hires, job openings, and mirrors the unemployment rate and layoff data indicating that the rise in quits is attributable to job changes. The rise in quits also coincides with the beginning of the sharp jump in housing starts and new single-family home purchases that led to a doubling of homebuilder stock prices following the article.
So what next? My conclusion is that if you want to know where homebuilder stock prices are headed, look to employment related measures. Quits began slowing and leveling off last fall, which has coincided perfectly with the recent slowdown in the housing market. But why are quits slowing? Because people are less confident about the economy and employers are increasingly apprehensive about hiring. The Index of Help Wanted Advertising in Newspapers has fallen off sharply since the beginning of the year after remaining relatively level for several years. That index has been impacted by a shift to online listings, but that is reflected in the leveling off between 2003 and 2006, and doesn’t explain the recent sharp drop.
The Monster Employment Index, which measures online listings, has increased steadily since 2003 at a rate of between 28% and 32% and is track to increase 30% this year. So there’s no leveling off online according to Monster Worldwide, but there could other factors impacting the numbers such as multilevel marketing type and work from home related listings, basically phony jobs.
Most importantly though is that I think this shows that the speculation rhetoric coming out of the financial media has been a lot of ballyhoo and the main reason for why the housing market is doing what it is doing is because of shifts in the job market. So if the economy slows down more, then the housing market will probably cool more, and vice versa. The combination of a lousy stock market and interest rates of 1% probably contributed to the run up in home prices and homebuilder stock prices, but it’s not the main reason.