Here's How Housing Bubble 2.0 Becomes Housing Crash 2.0

by: Dave Kranzler


The big investor buying binge is done.

The first-time buyer segment is in serious decline.

Renewed homebuilder pessimism reflects a poor market outlook.

As I have detailed in several previous articles, the housing market data since the middle of last summer has been trending lower on a monthly sequential basis, signaling that the housing mini-bubble which has inflated over the last two years is about to pop. In the past week, more empirical evidence has surfaced which I believe further confirms my bearish view on the housing market. In fact, I would argue that the factors which inflated this round two of the housing market bubble are becoming non-factors, which will cause another "popping" of the housing bubble.

The biggest factor in driving home sales and prices higher over the last two years has been the big institutional investor. This homebuyer segment engaged in a strategy of buying up huge portfolios of distressed homes and converting them into rental properties. The strategy has been to build a portfolio which throws off rental income and to eventually sell the properties for a big investment gain.

This strategy, however, has seemingly run into some roadblocks. As I detailed in an article last year, one of the biggest players, Colony Capital, had to pull an IPO of its rental portfolio last summer because it had only achieved a little more than a 50% rental rate and the market wasn't going to pay for that. Before that, Ziff Ochs announced that it was unloading the portfolio of properties in had assembled in northern California, stating that the rental yields were disappointing.

And now Blackstone (NYSE:BX), the largest buy-to-rent investor, has indicated that it is winding down its huge buying program:

"The institutional wave has passed," Gray, who oversees almost $80 billion in property investments, said in a telephone interview. "It's at a much lower level than it was 12 or 24 months ago" (Jonathan Gray, head of Blackstone global real estate).

As the article linked states, Blackstone had been spending more than $100 million per week on properties. The absence of just this bid in the market will create a big hole in demand. My bet is that most other large players are also beginning to wind down purchase programs.

The drop off in big institutional buying is accompanied by an even more serious deterioration in the first-time buyer component of the market. As I discussed in my previous article, historically the first-time buyer has represented 40% of total homebuyer demand. The primary reason the first-time buyer segment is declining is the overall financial condition of this household demographic. For instance, as has been widely documented, there has been a sharp decline in real disposable income per capita. This makes it difficult for a first-time buyer to come up with a down payment and support the expense of owning a home, especially now that both prices and mortgage rates have increased substantially since May 2013.

To make matters worse, I came across some data recently published by the Corporation for Enterprise Development which shows that 56% of all consumers have subprime credit. Given the tighter lending standards that have been adopted by the GSEs, the income and credit condition of the average American has thus become a huge impediment to becoming a homeowner. This is why we are seeing the steep decline in what used be 40% of the homebuyer market.

Given that the big institutional homebuyer cohort is pulling away from buying, the decline in the first-time buyer segment of the market could well create what I will call an "air pocket gap-down" in the housing market. This graph illustrates my point (source,, edits are mine):

Up until now, the institutional investor has "filled in" the demand area that would be represented to the right of the red arrow. With that segment of demand disappearing, it creates an "air pocket" of demand that I believe will cause a serious drop-off in both price and sales volume. Clearly, based on the data I have presented in several previous articles, sales volume and price - when measured on a month to month sequential basis - have been declining since the middle of last summer. Unless something is done to stimulate the historically fundamental components of market demand to replace the absence of institutional buying, the housing market is at risk for a big downturn.

One final factor that I believe reinforces my thesis is the recent drop in homebuilder "sentiment," as measured by the National Association of Homebuilders housing market index. Some of the big homebuilders have been reporting declines in orders and an increase in cancellation rates (I've detailed this in previous articles). I believe the "pessimism" in the homebuilder outlook, as evidenced by the index dropping below 50 for the first time in nearly a year, is further confirmation that my bearish analysis is likely valid. As you can see from the graph in the article linked, the last time the homebuilder sentiment index peaked over 55 and declined from there and coincided with the start of the last housing market collapse in late 2005.

Perhaps the best signal about the true condition of, and outlook for, the housing market is the relative performance of the Dow Jones Home Construction index (DJUSHB) relative to the S&P 500. The DJUSHB peaked at 550 in mid-May 2013. Since then through today (Wednesday, March 19), the builder index is down over 7%. In comparison relative to this, the SPX is up over 13%. In my view, the fact that homebuilder stocks are declining, while the broad market indices are hitting record highs, is by far the most bearish signal on the housing market. If the broad stock market goes into a decline, it is my bet that the homebuilders quickly sell-off down to their lows in 2008 - a 70% drop from today's level on the index.

Please see my previous articles for trading ideas to take advantage of a bearish view on the housing market. I continue to hold short positions in DR Horton (NYSE:DHI), Ryland (NYSE:RYL) and KB Homes (NYSE:KBH). I also like shorts in Pulte (NYSE:PHM), Lennar (NYSE:LEN), Beazer (NYSE:BZH) and Toll Brothers (NYSE:TOL). Based on the amount of insider selling in most of these stocks over the last year, the upper managements at these companies seem to share my view.

Disclosure: I am short DHI, KBH, RYL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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