Construction has slowed, sales have dropped, home prices have decelerated, and sentiment in the sector has deteriorated. The sharp underperformance of homebuilder stocks suggests that investors expect the sector to continue to struggle.
And, as famed housing-watcher Robert Shiller notes, the weakening housing market is similar to the last market high, just before the subprime housing bubble burst a decade ago.
The economist, who predicted the 2007-2008 crisis, told Yahoo Finance that current data shows “a sign of weakness.”
“This is a sign of weakness that we’re starting to see. And it reminds me of 2006 … Or 2005 maybe,”
Housing pivots take more time than those in the stock market, Shiller said, adding that:
“the housing market does have a momentum component and we’re seeing a clipping of momentum at this time.”
The Nobel Laureate explained:
“If the markets go down, it could bring on another recession. The housing market has been an important element of economic activity. If people start to get pessimistic about housing and pull back and don’t want to buy, there will be a drop in construction jobs and that could be a seed for another recession.”
When reminded that 2006 predated the greatest financial crisis in a lifetime, RT notes that Shiller acknowledged that any correction would likely be far less severe.
“The drop in home prices in the financial crisis was the most severe drop in the US market since my data begin in 1890,” the Yale economist said.
“It could be that we’re primed to repeat it because it’s in our memory and we’re thinking about it but still I wouldn’t expect something as severe as the Great Financial Crisis coming on right now. There could be a significant correction or bear market, but I’m waiting and seeing now.”
The infamous US housing bubble in the mid-2000s and the subsequent subprime meltdown were key factors spurring the broader financial crisis of 2008. RT reminds us that a speculative frenzy over house prices, mortgages beyond long-term capabilities to finance, and eventually a wave of defaults by borrowers, threatened the solvency of some key financial institutions which in turn led to a stock market crash, and the global financial crisis.
Shiller is not alone in his ominous prognostications. Goldman’s latest note warns there is more pain to come in the US housing markets:
The most likely drivers of the slowdown are higher interest rates and tax reform. We estimate that higher interest rates explain roughly two-thirds of the deceleration in residential investment since 2017. Provisions in tax reform that reduced the value of the home mortgage interest deduction have also likely had a modest negative impact on house prices and might have contributed to the slowdown in homebuilding and sales as well.
We expect higher interest rates and tax reform to remain headwinds, but see the low level of homebuilding relative to demographic trends as a medium-run tailwind. Our residential investment model accounts for both of these offsetting forces and currently projects a -1.5% growth pace in 2019. Weaker residential investment coupled with smaller wealth effects on consumption as house price appreciation slows would reduce the total GDP contribution from housing from +0.3pp on average in recent years to -0.2pp in 2018 and -0.1pp in 2019.
And finally, for those hoping that weakness in housing will prompt Jay Powell to fold and ease back his tightening trajectory – Goldman says, fuggetaboutit…
We do not expect Fed officials to be particularly unnerved by the softer housing data. Housing is by far the most interest rate sensitive sector of the economy and has long been seen as the textbook transmission mechanism of monetary policy. Far from being a surprise, a meaningful slowdown in residential investment is a key feature of a successful tightening cycle. Fed officials are therefore likely to instead remained focused on aggregate activity and continue tightening until overall GDP growth and job creation have slowed to a sustainable pace.
To react too strongly to a housing slowdown would risk repeating one of the mistakes of the late 1960s, when the Fed reversed course after initial tightening hit housing hard, contributing to the decision to keep policy too easy for too long.
And while Goldman tries to put a little lipstick on the ugly housing pig, we give the final word to Nobel-winner Shiller:
“By the way, we’re overdue for another recession.”
The SPDR S&P Homebuilders ETF (XHB) was trading at $35.36 per share on Tuesday afternoon, up $0.03 (+0.08%). Year-to-date, XHB has declined -19.95%, versus a 3.21% rise in the benchmark S&P 500 index during the same period.
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