“Ah! well a-day! what evil looks
Had I from old and young!
Instead of the cross, the Albatross
About my neck was hung.”
-Samuel Taylor Coleridge, The Rime of the Ancient Mariner
On Tuesday I detailed how to mitigate the effects of a 2nd derivative growth drought on your PnL via portfolio xeriscaping.
I’m going to stick with the climatology theme this morning, but lift it out of the metaphorical domain and discuss some tangible risks vis-à-vis housing specifically.
On to the Domestic Macro Grind ….
First, to quickly review yesterday’s high frequency data as Existing Home Sales for July carried a number of notables:
For a second month in a row consensus was expecting sequential strength in Existing Home Sales – an increasingly serial (mis)expectation that remains difficult to understand given the trend in signed contract activity was signaling the opposite and the consistent empirical proclivity for EHS (closed transaction volume) to re-converge with the trend in PHS (signed contract volume) following any short-term dislocation between the two series.
EHS fell -0.7% M/M, marking a 4th month of sequential decline, while falling -1.5% Y/Y and registering a 5th consecutive month of negative year-over-year growth. Again, with PHS and Purchase Application volume signaling as much, the broader inventory dynamic unchanged and housing sentiment softening on the margin, the July weakness should carry little surprise value.
The biggest notable in the July release, however, was actually a (marginal) positive.
Year-over-year unit inventory growth improved to +0% year-over-year, marking a 4th month of 2nd derivative improvement and ending a remarkable 37-month stretch of negative year-over-year growth (recall, while sales data is seasonally adjusted the inventory data is not so the y/y change offers a cleaner read on the underlying trend).
Moreover, if we restrict the sample to detached single-family homes (i.e. ex-condos & co-ops), unit inventory growth accelerated to +1.2% Y/Y.
This, of course, matters because all-time tight supply conditions have acted as the primary gating factor on volume growth. And while neither the absolute level of unit inventory nor the current months-supply level will serve to support a material change in volume growth nearer-term, from a better/worse perspective, the trending slope of the data has been conspicuously better.
The other notable was the continued, conspicuous increase in sales at the high-end as the share of homes above $1M held at an all-time in July. The share of homes selling for >$750K and >$500K reflected the same strength.
To be fair, under normal/expansionary conditions home prices always get nominally more expensive over time and shifting share dynamics are more pronounced in the present instance as lower priced, distressed sales have gradually rolled out of the mix since the housing recovery began in earnest in 2012.
The increase in high-end sales is not all optics, however, and recent data make for an interesting juxtaposition.
While luxury home sales remain strong and rising - a reality which saw confirmation with Toll Brothers (the builder proxy for luxury housing demand) reporting a +27% increase in revenue and +18% increase in signed contract growth for fiscal 3Q this week - the University of Michigan’s “Good Time to Buy a Home” series fell to its lowest level since 2008 in the latest month while aggregate existing market sales continue to disappoint.
There are, I think, a few extractable conclusions with varying duration sensitivity:
- Near-term: Absent an unexpected jump or outsized revision in next week’s July PHS data, expect a similar flavor of underwhelming sales growth again in August.
- Near-term: Disproportionate strength in high-end sales could be viewed as one manifestation of inequality born out of tax reform and fiscal stimulus with owners of capital and financial assets benefitting disproportionately. It’s difficult to argue against that, at least as a partial explanation.
- Medium-term: The housing markets biggest albatross is showing fledgling signs of extrication with the peak in acute supply conditions now seemingly rearview. Rising inventory would resolve the primary constraint on sales, help restore supply-demand balance and would likely service to moderate price growth as well. It will remain a slow march but the path to housing market renormalization goes through supply.
Tactically, remember the prospective dynamic we’ve been stalking here as a later 2H potentiality:
Our expectation for the domestic economy is Quad 4 into the end of the year, a macro environment typically characterized by falling rates and a dovish policy stance and an environment in which interest rate sensitive equities like housing generally perform well. Layering fiscal stimulus atop an already taut, late-cycle economy is anomalous and it presents an interesting, somewhat anomalous potentiality as households could see improved consumption capacity at the same that both headline growth and inflation (domestically and globally) are slowing and yields are making lower highs.
If macro conditions do, in fact, evolve that way it would be a favorable setup for housing related equities, particularly against a backdrop of significant 2018 underperformance.
Now, I know I promised some penetrating climatological-centric investment conclusions but I’m really only going to tease it here.
In our 3Q18 Housing Themes call we broached the Climate Change topic. We're obviously very early here but the reality of climate change remains on a collision course with homeowners in low-lying areas. And while not a concern today or (the day after) tomorrow, at some point down the road there will be a growing realization that homes near the water are going to be worth (much) less as their value converges toward zero amid rising sea levels. With most residential real estate property still financed with 30Y mortgages, we think it’s the right time to begin asking the questions and considering the implications.
I know climate change can be a political football so I’m going to try to stay politically agnostic and stick to the data. The link here is to the relevant section in our themes deck …. Objectively, I think it shows a clear trend toward rising storm/hurricane frequency, growing flood insurance risk (which carries Federal Budget implications) and significant and rising exposure to storm surge flooding. You are welcome to draw your own conclusions.
Elsewhere across touristy macro talking points, here’s a curated selection along with our summary take:
We now have the longest bull market in history, the fed is fully cognizant of potential risks (trade, curve inversion, fading fiscal impulse, etc.) but satisfied to stand pat on its intended policy path, the EU Economic Surprise Index is now besting the U.S. for the 1st time since early 1Q and U.S. relative performance vs the rest of the world is in uncharted territory.
In order: It’s a nice (subjective talking point) with little utility from a tactical risk management perspective. Powell has taken explicit pains to signal the intention to maintain the normalization path outside of (or even in the face of) growing geopolitical risk and/or negative OUS economic/market developments – expect him to maintain that messaging tomorrow at Jackson Hole. The ‘crossing of the streams’ in the EU vs U.S. Eco Surprise Indices is interesting but to the extent our 2nd derivative for growth/inflation outlook remains unchanged it doesn’t matter. Unprecedent relative performance for U.S. equities can only really resolve via two paths …. a recoupling via a move lower in domestic equities or a global move higher with re-convergence via OUS asset outperformance. It could also not resolve, nearer-term. We wouldn’t attach undue significant to “unprecedented”, however …. when you have an unprecedented acceleration in domestic GDP growth (8 consecutive quarters) and unprecedented policy initiatives (fiscal stimulus atop a late-cycle, already taut economy), unprecedented things tend to happen.
Climate is what you expect, weather is what you get. Price is what you pay, value is what you get.
Weather and markets are similar complex systems – neither static nor linear. And the flow of influence is dynamic and bidirectional – climate/value expectations don’t evolve in a vacuum independent of persistent weather/price phenomenon.
No one was promised “easy” … only “not boring” and an opportunity for continuous innovation and evolution.
Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:
UST 10yr Yield 2.80-2.93% (bearish)
SPX 2 (bullish)
RUT 1 (bullish)
Utilities (XLU) 52.61-54.84 (bullish)
REITS (VNQ) 81.18-84.75 (bullish)
Industrials (XLI) 74.05-77.66 (bearish)
VIX 11.50-15.08 (neutral)
USD 94.85-97.15 (bullish)
Oil (WTI) 64.08-68.45 (bearish)
Gold 1165-1217 (bearish)
Copper 2.54-2.75 (bearish)
Best of luck out there today,
Christian B. Drake
U.S. Macro Analyst
