Despite an elevated unemployment rate, weak consumer sentiment and a hoard of homeowners strategically defaulting on mortgages, an opportunity may exist in real estate.
One positive force working in favor of an upbeat real estate market is affordability. With the real estate sector being depressed for such a long period of time, prices are at record lows on a per-capita disposable income basis. In fact, when adjusted for inflation, organic income growth is on the rise and is expected to continue to increase as businesses expand and the overall economy improves. To further support the affordability force, mortgage rates are at record lows. According to BankRate.com, as of July 28, 2010, a 30-year fixed mortgage was at 4.25% and jumbo loan rates are at their lowest levels in nearly five years.
These highly attractive lending rates have sent the volume of mortgage applications up 7.6% during the week ended July 16 and has enabled the number of purchase applications to increase, despite the expiration of the federal homebuyer tax break.
In addition to affordability, seasonality factors for the sector are favorable. Historically speaking, May-August is a seasonally strong period for home sales and it appears that trend is still intact. The Case-Shiller index increased more than expected in May and posted a rise of 0.47% month-over-month and 4.4% year-over-year on a seasonally adjusted basis.
A third force working in favor of the real estate sector is an improving labor market. According to the Labor Department, 39 states and the District of Columbia posted unemployment rate decreases in June, marking a third straight month of declines and pushing the national unemployment rate to 9.5%. This is a vital force due to the fact that consumers need jobs to purchase homes.
Last, the sector as a whole seems to be trending in the right direction. Existing home sales were higher than expected in June, new home sales rose a healthy 23.6% month-over-month in June and inventory-to-sales ratios are improving with nearly 8.6 months of inventory on the market.
In conclusion, as long as lending rates remain favorable, inflation-adjusted disposable incomes rise and the labor markets continue to improve, an opportunity seems to exist in the real estate sector.
Some ways to play the residential real estate markets include:
- SPDR S&P Homebuilders (XHB), which closed at $14.84 on Wednesday.
- iShares Dow Jones US Home Construction (ITB), which closed at $11.51 on Wednesday.
- iShares FTSE NAREIT Resid Plus Cp Idx (REZ), which closed at $36.88 on Wednesday and is currently trading above both its 50 day and 200 day moving averages.
Although the sector seems to be trending in the right direction, it is important to utilize an exit strategy which identifies specific price points at which downward price pressures are likely to be witnessed to help protect against the risks.
According to the latest data, the price points for the aforementioned ETFs are: XHB at $14.20; ITB at $11.00; REZ at $34.92. These price points are reflective of market volatility and change on a daily basis.
Disclosure: Long REZ