August vacations have been less-than-relaxing for investors over the past several years. Reminiscent of the financial market turbulence in August 2011 following the US credit rating downgrade and the August 2015's thousand-point China-induced sell-off, US equity markets gyrated throughout the week with the S&P 500 (SPY) ultimately finishing lower by a relatively modest 0.4% while the Nasdaq (QQQ) finished lower by 0.5%. In a global flight-to-safety, the 10-year yield dipped to the lowest rate in more than three years while the 30-year flirted with new all-time record lows.
For the second straight week, the broad-based REIT ETFs (VNQ and IYR) rallied more than 1% as investors flocked to the domestic-focused and rate-sensitive equity sectors. The residential and technology REIT sectors were the standouts of a better-than-expected 2Q19 REIT earnings season that saw an impressive 50% of REITs raise full-year guidance expectations, well above the recent second-quarter averages. After giving up their year-to-date outperformance earlier this summer, REITs are again outperforming the S&P 500 by more than 6%.
As we've been discussing for several months, the 'Goldilocks' economic conditions of low interest rates, modest new supply growth, and still-solid domestic economic growth have been an ideal macroeconomic backdrop for the long-middling REIT sector. As we discussed earlier in the year in "REIT Rejuvenation on Solid Footing in 2019", with most REITs trading at net asset value premiums for the first time in three years, REITs are enjoying a cost of capital advantage that has kickstarted the long-dormant external growth pipeline, which has historically been the "secret sauce" behind the sector's long-term outperformance relative to the broader equity market.
On the week, the Hoya Capital US Housing Index, which tracks the GDP-weighted performance of the US Housing Industry, finished the week higher by 0.1%, led to the upside by the residential REIT and homebuilder sectors. Brokerage firm Realogy (RLGY) jumped more than 19% on strong earnings while residential REITs including Sun Communities (SUI) and Equity LifeStyle (ELS) have benefited from the reacceleration in rent growth across the multifamily and single-family rental sectors to the strongest rate in more than three years. Expected to provide a boost to the sluggish single-family housing markets, mortgage rates dipped to the lowest level since 2016 as the first negative-yielding mortgage rates appear in Europe.
This week, we published our quarterly update on the homebuilding sector, Homebuilders Have Already Had Their Recession. Amid the volatile backdrop of trade wars and geopolitical uncertainty, the US housing market may be an unlikely stabilizing force. As goes the housing sector, so goes the economy. 2019 continues to be a year of rejuvenation for the single-family homebuilders after falling into a “mini-recession” in 2018. Sharply lower mortgage rates have eased affordability concerns. Second-quarter earnings season may go down as the turning point for the largest US homebuilders. Order growth exceeded expectations, rising more than 6% from last year.
For homebuilders, it's all about the "5 Ls": lending, lumber, labor, land, and legislation, and in 2018, all five of these factors were stiff headwinds, but at least two - lending and lumber - have become tailwinds this year. While slower-reacting data sets remain soft, forward-looking metrics like mortgage demand, homebuilder sentiment, and commentary from homebuilders have painted a brighter picture for the second half of 2019. Long-term fundamentals continue to support healthy and growing demand for single-family homes in the 2020s and upward pressure on home values amid a growing housing shortage. Already the largest spending category for the average American, we see housing costs and rents continuing to rise as a share of total spending. Remarkably, housing inflation (CPI: Shelter) has explained roughly half of total core inflation since the start of 2012.
As we've been discussing for the past several months, while the slower-reacting data sets have yet to show the full effects of the sharply lower mortgage rates, the forward-looking metrics in the housing market suggest a solid recovery in the single-family markets throughout 2019, which we analyze in more detail below.
Tracking the 10-year Treasury yield, the 30-year fixed mortgage rates dipped to the lowest level since 2016 last week. At 3.60% according to Freddie Mac, mortgage rates are a steep 134 basis points below their peak last November. While low inventory levels of single-family homes has blunted some of the impacts of lower rates, the MBA Purchase Index, a useful leading indicator of new and existing home sales, remains higher by nearly 10% over the past six months compared to the prior six months and is higher by roughly 7% year-over-year on a seasonally-adjusted basis.
The real activity has been in the refinancing market, where sharply lower rates have sparked a refinancing boom. The MBA Refinancing Index surged to the highest level since late 2016, higher by more than 115% year-over-year. The 134 basis point drop in mortgage rates has effectively slashed $120 per month off the average $150k mortgage loan balance and $250 per month off the average existing home sale price of $320k relative to levels in late 2018, meaningfully improving the affordability picture for the single-family market.
As we pointed out in our report on the homebuilding sector, mortgage rates have shown a rather remarkable correlation with new home sales during the post-recession period. We continue to believe that 2018/2019 looks quite a bit like 2014/2015 when home sales ground to a halt following the taper-tantrum-led interest rate surge only to surge more than 15% the following year as mortgage rates reversed. While we do think that the lingering effects of tax reform and low inventory levels will negate some of the positive flow-through from lower rates, we would be surprised if new home sales did not accelerate back to the mid-single-digit growth rates by late 2019 if mortgage rates remain around these levels.
Led by the still-solid labor market, the US has reasserted itself as the engine of global growth in 2019, but investors are naturally wondering how long the labor markets can hold-on if the trade war drags into 2020. Last week, jobs data was generally in line or slightly better than forecast according to data from BLS and ADP. This week, job openings data in the JOLTS report came in slightly shy of estimates in June at 7.34 million job openings compared to the 7.45 million expected, but the prior month was revised upward. Confirming recent payrolls data from the BLS and ADP, the rate of job creation has undoubtedly slowed in 2019 following a period of reacceleration last year. Hires are higher by 3.2% over the last year, as the number of job openings continues to outnumber the total amount of unemployed Americans in the labor force by more than a million. The spread between the rate of job openings growth and hires has widened since early 2018, however, a sign that labor shortages may be developing.
The rate of voluntary quits continues to rise, matching the highest level of this economic expansion, a sign of increased labor market dynamism and an indication that workers are feeling more confident about their financial situation. The lack of labor market dynamism in the post-recession period has been blamed for weak productivity growth and there is hope that the uptick in the quit rate may foreshadow future productivity gains as workers pursue jobs that better maximize their skills. The rate of involuntary layoffs and discharges also matched the lowest rate on record in June.
After perking up a bit earlier this summer, jobless claims data has improved over the last several weeks and is again flirting with all-time record lows. With better-than-expected data this past week, the four-week average for initial claims is back near the lowest level since April. Adjusted for the size of the labor force, initial claims have been setting new record-lows on a continuous basis for much of the past three years, as have the rate of continuing claims.
After giving up their YTD gains earlier this summer, REITs have again gained the edge over the S&P 500 amid the sharp pullback in interest rates over the past several months. The broad-based REIT index is now higher by roughly 22% on a price-basis and 25% on a total return basis, outpacing the 16% gains on the S&P 500. The US Housing sector has climbed 21% this year led by the 34% surge in Homebuilder stocks. At 1.73%, the 10-year yield has retreated by 95 basis points since the start of the year and is roughly 150 basis points below peak levels of 2018 around 3.25%.
It’s August, so naturally, volatility is back. US equity markets ended a turbulent week to the downside for the second straight week as global interest rates took another leg lower. In a global flight-to-safety reminiscent of 2016, the 10-year yield dipped to the lowest rate in more than three years while the 30-year flirted with new all-time record lows.
Supported by a solid end to a better-than-expected 2Q19 earnings season, REITs rallied nearly 2% on the week as investors flocked to the domestic-focused and rate-sensitive equity sectors. On an otherwise quiet week of economic data, PPI inflation data was cooler-than-expected last month while JOLTS and jobless claims data show that the labor markets remain resilient. Expected to provide a boost to the sluggish single-family housing markets, mortgage rates dipped to the lowest level since 2016 as the first negative-yielding mortgage rates appear in Europe.
The economic calendar again heats up next week with Core CPI data on Tuesday, Retail Sales and Homebuilding Sentiment on Thursday, and the closely-watched Housing Starts and Permits data on Friday. Based on strong order growth results from the publicly-traded homebuilders and other forward-looking indicators noted above, we expect to begin to see the positive effects of lower rates show up in the more slower-reacting housing starts and home sales data over the next several months.
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