Homebuyers are Screwed — But Not Your Homebuilder Trade…

For the better part of the past two years, we’ve stuck to our bullish call on residential real estate.

Our thesis was simple enough. The housing bust and ensuing financial crisis gutted the market and scared away buyers for years. When demand tanked, builders shifted their focus to multi-family units. Single-family home construction took a dive, supply tightened, and builders were slow to react once younger buyers hit the market in droves last year.

Homebuilders are just now starting to ramp up production to meet increasing demand. The echoes of the housing bubble have now caused yet another serious problem in the housing market: too many new buyers and not enough single family homes to go around.

As a result, the housing market is about to hit a rough patch.

The culprit?

Rising prices.

December existing home sales came in well below expectations. But demand isn’t slowing down. The problem is that there aren’t enough houses on the market for all the would-be buyers. Housing inventory dropped 11.4% in December, MarketWatch reports, marking the 31^st month where supply was lower than compared to the previous year.

At that rate, it would take just a little over 3 months to sell all available inventory, MarketWatch notes. That’s the lowest supply level in 18 years. If you’re in the market for a new house right now, you’re in for some stiff competition — especially if you’re a first-time buyer. No matter where you look, the more reasonably priced homes are the ones in shortest supply.

Of course, investors are interpreting the data all wrong. They see sales slumping in the data from late last year and assume the housing market is cooling off. Sure, the housing market might cause buyers some trouble. It might even relegate some first-time buyers to the sidelines if rising prices pick up momentum this year.

But any troubles faced by homebuyers aren’t likely to put a major dent in homebuilders.

The market has spoken. Homebuilders need to ramp up production to meet consumer demand after sitting on their hands for the better part of the last decade. Supply is tight. As millennials continue to grow up and jump into the housing market, homebuilders are going to need to catch up.

We showed you earlier this month how the strong uptrend in the iShares U.S. Home Construction ETF (NYSE:ITB) has accelerated over the past four months. It has gained a startling 65% over the past year, leapfrogging the market’s hottest tech stocks.

But the homebuilders are now starting to feel a little heat. The group has now endured five straight days of selling, dropping more than 5% from its highs posted earlier this month.

That might feel like a huge drop in this market. But it’s perfectly normal behavior — even for the surging homebuilders. To give you an idea as to just how strong these stocks have been, ITB hasn’t revisited its 50-day moving average in more than four months. It was due for a break…

It’s going to take a lot more catching up before the homebuilders slow down, even if home prices continue to rise at a rapid pace. We’re sticking to our bullish call on the industry as these stocks take a quick breather.

Sincerely,

Greg Guenthner
for The Daily Reckoning