Homebuilders And Their Shareholders Are Drinking The Kool-Aid

by: Markos Kaminis

This week's measurement of the homebuilder mood sure inspired the shares of homebuilders, but it didn't impress yours truly. It sent the shares of the builders soaring, for a half-day, before reality sank in and daytraders backed out. Here's why I've changed my tune with regard to the homebuilders, and why I agree with the negative tone of trade Thursday.

The National Association of Home Builders/ Wells Fargo Housing Market Index, the main measure of the homebuilder mood, rose three points in October. It was the second consecutive three-pointer in two months (after prior report revision), and it inspired homebuilder shares. They all rose Wednesday when the news broke, including the shares of Toll Brothers (NYSE:TOL), K.B. Home (NYSE:KBH), D.R. Horton (NYSE:DHI), Beazer Homes (NYSE:BZH), Lennar (NYSE:LEN), Hovnanian (NYSE:HOV) et al. The move was clearly seen in the S&P Homebuilders SPDR (NYSEARCA:XHB), but only into midday.

By the close, they had dipped into negative territory, reflecting that common sense I hope some of us continue to possess. That's not to mention the Fitch report that knocked common sense back into most of us. Fitch, of course, warned of significant risk to the U.S. financial sector tied to the troubles of Europe. The report sent the whole of the market downward, not excluding the hyped up housing stocks.

The Housing Market Index was the industry factor that should have been ignored anyhow, despite its significant move of the last two months. Looking more closely at the data, the index stands now at its highest since May of 2010; you remember that blockbuster month when we all drank champagne and celebrated our good fortune... or was that more likely all a dream?

The NAHB's chief economist said, "This second consecutive gain in the HMI is evidence that well-qualified buyers in select areas are being tempted back into the market by today's extremely favorable mortgage rates and prices." I say nope, that ain't it all. Rather this query of mostly smaller homebuilders is drinking the Kool-Aid. Year-over-year data has been reflecting growth because of last year's expiration of a housing incentive program. However, readers should not have been surprised one iota, given my real estate growth forecasts from early this year, though I suspect most homebuilders aren't following me. We've also seen some month-to-month support from the dramatically low levels of activity recently posted.

The HMI's component indexes tell a story. The Current Sales Index, which probably reflects as much what builders are reading as what they are actually seeing, was reported 3 points higher to a mark of 20. The Expectations Index, which reflects their sales expectations for the next six months rose a lesser 2 points, to 25. The index measuring current traffic of prospective buyers, which probably best reflects what builders are actually seeing, rose just one point to a still pathetic level of 15. Furthermore, 50 marks neutral territory, so all these measures continue to post deeply depressed levels of homebuilder sentiment on an absolute level. So, yes, there's really no reason to celebrate. What's more, my economic view for the next year to a decade, which is one of deep, biting recession, if not depression, will not save the housing industry.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.