Real Estate Weekly Review
As the longest government shutdown in history enters its fifth week, investors don't seem to mind. The rally continued for US equities, climbing for the fourth consecutive week. The S&P 500 (SPY) notched another 3% gain this week and is now higher by nearly 14% from the lows hit as the market entered a bear market on December 24. This week's gains came amid potential signs of easing in the China/US trade dispute after US officials indicated that some tariffs may be lifted during trade talks. Earnings season so far as been generally in line or slightly better than expectations with the earnings calendar ramping up over the next three weeks.
Real estate and housing-related equities continue to lead the rally in 2019. Following a nearly 5% gain last week, REITs (VNQ and IYR) climbed another 2% on the week, led by strong performance from the residential REIT sector. With REIT earnings season beginning next week, the apartment and single-family rental REIT sub-sectors both notched gains in excess of 3% on the week.
(Hoya Capital Real Estate, Performance as of 4pm Friday)
The Hoya Capital Housing Index, an index that tracks the performance of the US housing industry, finished the week higher by nearly 2% despite weakness from the Homebuilders (XHB and ITB) and home improvement retailers. The mortgage lending and services sector jumped more than 5% on the week after strong results from regional banks including SunTrust (STI) and Regions Financial (RF). Mortgage REITs (REM) climbed 1% on the week.
The homebuilding products and materials sector managed to finish the week higher despite a warning from paint and coatings maker PPG (PPG) that the firm is under federal investigation for the improper accounting practices originally disclosed last May. The real estate brokerage and technology sector also delivered another strong week led by Redfin (RDFN), Re/Max (RMAX), and CoreLogic (CLGX). The Hoya Capital Housing Index has climbed nearly 9% so far in 2019 after dipping more than 10% last year.
Real Estate Economic Data
(Hoya Capital Real Estate, HousingWire)
Housing Data In Focus as Mortgage Rates Recede
Just weeks after much of Wall Street threw in the towel on homebuilders and the broader housing market in their 2019 outlooks, the recent pullback in mortgage rates has started to breathe some life back into the beaten-down housing sector. The MBA Purchase Index, a useful leading indicator of new and existing home sales, jumped to the highest level since 2010 while the MBA Refinance Index rose to the highest level since last spring. Even with the pullback in mortgage rates, however, rates are still roughly 50 basis points above the average rate between 2012 and 2018, amounting to a roughly $75 higher monthly mortgage payment on a $250,000 loan.
While recent mortgage demand data has been fairly solid, November and December new home sales data, which has been delayed by the government shutdown, is likely to be ugly when it finally gets released. Zillow estimates that November new home sales plunged 21% in November on a SAAR basis but recovered slightly in December, dipping a more modest 2% from a year earlier. Incorporating those estimates into the data set, we see that new home sales likely ended 2018 essentially flat, a rather remarkable end-of-year breakdown after recording a TTM growth rate of nearly 9% as recently as September. Existing home sales data gets released by the NAR next Tuesday with consensus estimates calling for a SAAR rate around 5.2 million, which would be a 7% annualized decline from last December. If nothing else, the last six months have reconfirmed that mortgage rates matter quite a bit to incremental single-family housing demand, a theme that we've been discussing since mortgage rates initially jumped in the wake of tax reform early last year. We were critical of the Fed late last year as the Committee took a seemingly defiant approach in pushing ahead with rate hikes despite clear signs of slowing in the rate-sensitive segments of the market. Since late December, the Committee has changed its tune, signaling a more dovish policy approach, and combined with the pullback in oil prices and resulting decline in inflation expectations, have generally lifted optimism across the single-family housing sector. Despite volatility in financial markets throughout December, Homebuilder sentiment actually improved with all three sub-components ticking higher.
Last week, we published a review of the performance of the real estate sector over the past year, Real Estate Ends Worst Year Since 2008. Despite the strongest year of GDP growth in more than a decade, real estate equities delivered their worst year since the Global Financial Crisis. REITs snapped their streak of nine consecutive years of positive total returns, dipping 4% on the year. Homebuilders tumbled 30% in 2018 after surging 59% in 2017.
Higher mortgage rates and tax reform shifted incremental demand from the single-family to the multi-family markets. Single-family housing data softened considerably in the second half of 2018. A symptom of the lingering national housing shortage, home prices ended the year higher by more than 5%. Despite peaking supply growth, multi-family rents accelerated throughout the year.
To the extent that recent weakness has been driven by higher interest rates, the outlook for 2019 looks brighter. Demographic trends suggest strong housing demand well into the next decade. REITs and housing-related equities have outperformed the broader US stock market over the last 25 years. The NAREIT All-Equity REIT Index has delivered an 11.4% average annual return, while the Fidelity Construction & Housing Fund (FSHOX) has delivered an 11.2% annual return since 1994. The S&P 500, meanwhile, delivered a 10.7% annualized rate of return during this period.
This week, we published REZ: A House Tour of the Residential REIT ETF. Among the most popular real estate "sub-sector" ETF, the iShares Residential Real Estate Capped ETF (NYSEARCA:REZ) offers focused exposure to 44 of the largest rental landlords in the United States. "Renter Nation" has been very good to REZ investors. Residential REITs have outperformed the broader sector over nearly every recent measurement period.
This run of outperformance is no coincidence. The effects of the historic underinvestment in new home construction continue to put upward pressure on rent growth and border housing inflation. The mounting housing shortage is amplified by a large demographic wave of young millennials hitting the housing market. Rent growth was impressive in 2018 despite record apartment supply growth.
So far in 2019, REITs have climbed more than 6% while Homebuilders have jumped nearly 8%. The S&P 500, meanwhile, has climbed nearly 7% on the year while the small-cap Russell 2000 has jumped 10%. The 10-year yield has climbed higher by 10 basis points, aided by a 17% jump in the price of crude oil (USO) and a 10% rise in gasoline prices.
Bottom Line: All Eyes Remain on Housing Data
What shutdown? The rally continued for US equities as the major indices notched their fourth straight week of gains. The S&P 500 has jumped 14% since bottoming in December. Real estate and housing-related equities continue to lead the rally in 2019. REITs are up more than 6% this year, while the Housing Industry Index is up nearly 9%.
Housing starts and new home sales data continues to be delayed by the shutdown. Indications are that single-family home sales significantly weakened in the final quarter of 2018. After a dismal end to 2018, housing data is showing signs of life. The MBA Purchase Index, a leading indicator of home sales, climbed to the highest level since 2010. Corroborating the sensitivity of single-family housing demand to mortgage rates, homebuilder sentiment improved in December despite volatile financial markets. Rates, however, remain at the upper-end of the post-recession range.
For an in-depth analysis of all real estate sectors, be sure to check out all of our quarterly reports: Net Lease, Data Center, Manufactured Housing, Student Housing, Single-Family Rentals, Apartments, Cell Towers, Manufactured Housing, Malls, Shopping Centers, Hotels, Office, Healthcare, Industrial, Storage, and Homebuilders.
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Disclosure: I am/we are long VNQ, XHB. 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.