The last few weeks have been disastrous for the major homebuilders and mortgage lenders. The stocks have been crushed across the board. I’m not talking about a few percentage points. I’m talking about …
A 45% plunge in subprime mortgage company Fremont General (NYSE: FMT) in just 12 trading days …
A whopping 87% five-day collapse in New Century Financial, some of which took place on the Pink Sheets because the New York Stock Exchange suspended the shares …
A multi-week, 24% decline in the shares of homebuilder Centex (NYSE: CTX) …
And a 9%, two-day plunge in the shares of Lennar (NYSE: LEN).
Diversified banks haven’t been spared, either — the BKX Index of major banks slipped more than 3% on Tuesday alone. Construction suppliers, home improvement retailers, and virtually every other stock connected to the housing and lending industries got punished, too.
What the heck is behind this? Take your pick of dismal developments:
- The Mortgage Bankers Association dropped a bombshell on the credit quality front. It said the overall delinquency rate on home loans jumped to 4.95% in the fourth quarter, the highest in three and a half years.
- The foreclosure rate climbed to 1.19% from 0.99% a year ago.
- The late payment rate on subprime mortgages jumped to a whopping 13.3% … the highest in more than four years!
- Major banks and big-name Wall Street firms cut off mortgage lender credit lines and demanded past loans be repaid.
- Buyers of mortgage-backed bonds ran for the hills, aggravating the kind of 1998-style credit crunch I warned you about.
To top it all off, the New York Times lambasted the entire lending industry in a front-page story called “Crisis Looms in Market for Mortgages.†The article detailed how Wall Street analysts kept supporting stocks like New Century even as they started collapsing, and how they failed to alert investors to the massive scope of the mortgage market’s problems. Here’s a key quote:
“Now, as then, Wall Street firms and entrepreneurs made fortunes issuing questionable securities, in this case pools of home loans taken out by risky borrowers. Now, as then, bullish stock and credit analysts for some of those same Wall Street firms, which profited in the underwriting and rating of those investments, lulled investors with upbeat pronouncements even as loan defaults ballooned. Now, as then, regulators stood by as the mania churned, fed by lax standards and anything-goes lending.â€
This is deadly serious stuff. And if you’ve been reading my analyses, this carnage should come as no surprise. In fact, you should have dumped the heck out of these stocks ages ago!
And let me make it clear — While we might see short-term bounces here and there, I STILL don’t think the housing slump is over. Here’s why …
Every Day, I’m Surrounded by Signs Of Weakness in Housing Markets
I see “for sale†signs everywhere I go. I pass housing developments where new construction is proceeding extremely slowly. I read advertisements offering special discount “close out†pricing and massive incentives. I even ran across a pair of ads this week offering a 2-carat diamond and a 1984 Mercedes coupe to anyone willing to step up and buy.
Now, let me tell you about one nearby development called Cielo. It’s a community of townhomes that Lennar started building a while ago. It’s getting closer to completion every day.
A quick check of the Palm Beach County Property Appraiser’s website shows that a fair number of sales closed between August and November of last year. Here’s one for $492,365 … another for $509,990 … and another for $559,990.
There’s just one problem — Lennar is still sitting on a pile of available inventory at Cielo. It had two-and-a-half pages of listings on its website earlier this week. The asking prices ranged from $349,990 to $389,990.
Just a few weeks ago, they were over $400,000! And compared with those sales that took place a few months ago? Forget about it!
Now, differences in square footage, model type, options, and other things can account for some of the difference in pricing between a given set of housing units. But those variations wouldn’t account for such a sharp drop. In other words, the neighborhood “comps†(comparable sales, which appraisers use to determine the value of homes in a given area) are coming down.
Look, I’m not trying to single out this particular neighborhood. After all, I live not too far down the road! But here’s my point …
Ignoring the reality that home prices are generally falling doesn’t change the situation.
I’d rather be open, truthful, and realistic about what’s going on in the market and deal with it head on. And unfortunately …
The Cold, Hard Numbers
Look Pretty Darn Awful
You might be thinking that the real estate market in my backyard has nothing to do with the real estate market in Boise, Idaho. To an extent, that’s true … conditions in each local market vary.
However, the national housing statistics tell a similar tale of a slumping market. In January, the most recent month for which we have data:
- New home sales came to a screeching halt! The seasonally adjusted annual rate of sales was just 937,000, down a whopping 16.6% from December’s 1.12 million. The January sales rate was the weakest going all the way back to February 2003.
- Existing home sales managed to rise 3% to 6.46 million from 6.27 million units in December. But that’s only because the median price of an existing home tanked by $11,000, or almost 5%. At $210,600, existing home prices haven’t been this low in 22 months. That’s a sure sign of market weakness.
- Also keep in mind that the existing sales data tracks closed sales — sales based on contracts signed as many as 30 to 60 days earlier. A separate index that tracks pending home sales showed a 4.1% decline in January, much worse than the 1.2% drop expected on Wall Street. That means the existing home market is poised to get worse.
Don’t just take my word for it, though. The leader of one of the biggest home builders in the country, D.R. Horton’s CEO Donald Tomnitz, recently held a conference call to discuss his outlook. Here’s what he said,
“I don’t want to be too sophisticated here, but 2007 is going to suck, all 12 months of the calendar year.â€
Mr. Tomnitz followed that with, “Our future is not as bright as what we would like it to be.†And yet …
The Market Shills STILL
Don’t Get What’s Happening!
When it comes to a market like housing, you can’t just sit in an ivory tower pouring over a bunch of spreadsheets. You have to open your eyes and ears, read every little tidbit of news available, and most importantly, apply some common sense!
Wall Street — shocker! — clearly failed to do so during this housing boom and bust. They kept their “buy†ratings on the homebuilding stocks as they lost dollar after dollar. As that Times article pointed out, they reiterated their support for the major mortgage lenders even as incontrovertible evidence of fraud, misrepresentation, and ridiculously aggressive lending piled up.
Meanwhile, the major mouthpieces of the real estate industry first denied there was a slump unfolding. When they couldn’t do that any longer, they assured us that any decline would prove to be nothing more than a hiccup.
And they didn’t stop there. A few months ago, these same people came right back and proclaimed that mortgage and housing shares had bottomed. That got a little rally going.
Me? In late September I told you they were wrong. I said,
“I’m an open-minded guy. If the DATA shows that the market is picking back up … that lower rates are causing sales to surge again … and that the highest inventories in U.S. history are being worked down substantially … I’ll be fine with saying that a brand new boom is underway. But that’s NOT what the data is telling me.â€
I also said that after any bounce, these stocks would likely roll back over, and that “bottom fishing can be very dangerous.â€
Sure enough, the housing stocks are now heading south again. A few, like Beazer Homes (NYSE: BZH) and M/I Homes (NYSE: MHO), recently undercut their summer lows. Others, like Toll Brothers (NYSE: TOL) and Pulte Homes (NYSE: PHM), are getting darn close.
And as I pointed out earlier, the mortgage lenders are dropping like flies. Many are having liquidity problems, leaving them on the verge of bankruptcy.
Here’s what’s Next for the
Housing Market and Investors …
You have to look at the housing boom and bust as a once-in-a-generation event … maybe even a once-in-a-lifetime one. Things went so crazy on the way up, that it’s going to take lots of time and a fair amount of pain for things to sort themselves out on the way down.
We’re entering the key season for real estate, which runs from now through June. I get the sense a lot of sellers are counting on this to bail them out.
Here’s my take: Yes, demand will pick up seasonally from the winter lows. It always does. But no, it will not be a rip-roaring bounce. And it will not be enough to work through the near-record number of new and existing homes on the market.
In fact, I expect to see a lot of old properties hit the market again, in what I call the “March of the re-listers.†See, lots of disappointed sellers pulled their homes from the market in late 2006 to wait out the holiday lull. Now, they’re re-listing those properties in an attempt to catch the spring bounce. That should cause existing home inventories to climb in the next few months. They might even hit a new high.
Bottom line: The properties that sell will be the ones that are priced right — meaning the cheapest among the comps — or the ones that have unique attributes.
If you’re selling, you have to be reasonable. You’re not just competing against other existing home sellers, who are willing to throw in diamond rings and luxury cars. You’re also competing against home builders who are slashing prices on newly constructed homes.
If you’re a buyer, congratulations! You’re in the driver’s seat. Negotiate like it. If you’re not under any time pressure, I think you’ll find a lot of bargains at the tail end of this spring season. But if you don’t plan to be in your house for at least a few years, this is a dangerous time to jump on board. Why? Because I think home prices will likely fall even further in the next year.
If you’re an investor, here’s what I think about the homebuilders … the mortgage lenders … and the construction suppliers:
There will come a time when all the bad news is priced in, when the subprime storm has passed, when home inventories have been whittled down, and when all the boom’s excesses have been wrung out. And that will be a great time to jump back in.
But that time is not here yet. My numerical indicators don’t show it. My gut doesn’t feel it. And my day-in, day-out observations don’t point to it, either.
Until next time,
Mike
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