Updated: Oct 19, 2022
Hey Traderade family! A follow-on to my coverage on the home building sector, which many of you know I've been pretty bearish of for much of this year.
We've heard a lot about how the housing market has been deteriorating, but these charts really send the message home.
Mortgage rates are nearing 7%, their highest since April of 2002. This has caused demand for mortgages to fall significantly, but still not back toward more normalized levels. At least yet.
As mortgage origination collapses, it's reasonable to be concerned about the health of the housing market, particularly how much supply can move at current prices and how well builders may fare in such an environment where demand is slowing significantly.
The ITB home builder ETF has tracked the NAHB US Housing Market Index rather closely over the years, but of late it has yet to catch down. This is interesting in isolation, but even more fascinating when we look at a broader set of data which shows a similar picture.
ITB has been outperforming IEF, and because 10-year note yields and 30-year mortgage rates track very closely, this correlation is important to watch. In essence what it tells me is that home builders may be a bit optimistically priced.
Rising rates are clearly destroying demand, but these companies seem to be trading as if that's not a concern yet. But it is likely to become one as we see the supply and demand dynamics of the housing market become less favorable to those adding to supply, such as sellers and, of course, home builders.
For now home builders are continuing to build new houses, as we see 1.575 million housing starts, jumping over 12% from the prior month. One stand-out area are multi-family dwellings of five units or more, where we saw an eye watering surge of 28.6% month-over-month.
I believe this run rate of building is not sustainable and many builders are likely to see substantial losses as a result.
Home buyer sentiment is at historic lows, declining due to inflation, rising rates, housing prices being too high (see: inflation) and a poor economic outlook. Right now only 19% of consumers believe it's a good time to buy, and a lot of them are content to sit on the sidelines until a better opportunity emerges.
After all, renting looks pretty good in comparison to potentially being underwater on an expensive mortgage for an overpriced house.
Looking at ITB, it seems the stock is struggling to get back above a rather substantial supply zone. I would be tempted to short into this weakness, covering on any move above the weekly EMA(8) on a closing basis.
My initial downside target would be a retest of the recent lows at $47.89, and then my secondary more aggressive target would be $42.64. I would take off half of my position at the first downside target being met and the rest if the secondary target is hit, if the weekly EMA(8) is broken above on a closing basis, or if time runs out for the trade.
My timing for this trade, where if it doesn't work out I'd close it completely, is about six weeks. If by the end of November we aren't seeing these targets realized I'm going to close out the trade and look for other opportunities.
As always I hope this post helps. Please feel free to leave questions or feedback in the comments section!