foxex: Bear Sighting in the Housing Market

Insight after the bell

By Caleb Silver, Editor in Chief

Tuesday:

Trouble brewing in Housing
Venezuelan Inflation
A Hedgie walks into a coffee shop...
Chart: Russell 2000 glances off of 200-day lows

#1 Bear sighting in the housing market
This should cause some real anxiety. Housing stocks have slid into a Bear Market, just as interest rates are climbing and stock market volatility is ramping up. Of additional concern is the fact that home sales are leveling off and there is weakness at the higher end of home prices in major cities.

Why it Matters: Nothing gets consumers' attention more than home prices. At some level we are potential homebuyers either trying to buy and waiting for the dip, trying to sell and waiting for the pop, borrowing against our current home and praying for favorable valuations, or watching our neighbors sell their homes and hoping for bidding wars so that we can one day do the same.Given that, the 20 percent or more sell-offs in ETFs like the SPDR S&P Homebuilder ETF and the iShares U.S.Home Construction ETF from their January highs, is not to be ignored. Three of the top homebuilder stocks are faring even worse-

Toll Bros: -33.99%

Lennar Corp: -29.93%

Pulte Group: -28.24%

Higher interest rates can explain part of the concerns, but as we have noted, interest rates are still pretty low by historical standards. The 30-year fixed rate mortgage average is 4.7 percent, according to the St. Louis Fed. If you think that's high, talk to someone who bought a house between 1975-1990 when the 30-year had a 10 percent handle.

The real issue is that we may have come too far too fast - especially in the biggest cities in North America. (Canada is having its own mini-housing crisis). In the U.S., 12 of the 20 cities tracked by S&P Indices, which runs the S&P Corelogic Case-Shiller Index, saw housing prices eclipse record levels. The four cities that have not eclipsed their peaks are New York, Washington D.C., Detroit and Chicago. David Blitzer, who runs the Index for S&P, sums it up:

"Rising homes prices are beginning to catch up with housing...The slowing is widespread: 15 of 20 cities saw smaller monthly increases in July 2018 than in July 2017. Sales of existing single family homes have dropped each month for the last six months and are now at the level of July 2016...The index of housing affordability has worsened substantially since the start of the year."

What's Next: This is not a housing crisis, by any means. That said, home sales are the ultimate sign of consumer confidence. If we are feeling flush, we are more likely to buy and upgrade our homes. Rising interest rates and rising costs for construction are keeping potential buyers' hands in their pockets which means more inventory on the market and more declining prices. We know which way interest rates are going, so don't expect this problem to self-correct anytime soon.

Read More:

Top U.S. Housing Market Indicators

#2 - Venezuela's inflation problem
That may be the understatement of the year and it's a very serious problem for the nearly 32 million citizens of Venezuela who have been dealing with unfathomable prices for the most basic goods and services for years. The IMF is out with with its World Economic Outlook wherein it forecasts a 10 million percent rise for consumer prices for Venezuela in 2019. That is not a typo. The IMF raised its forecast from a one million percent increase it made in July, which was up from the 13,000 percent forecast it made in January.

Why it Matters: Venezuela is in an economic crisis most of us will never be able to relate to. The IMF estimates that its real GDP will collapse 18 percent this year - the fifth consecutive year in a row of declines. The once oil-rich nation is less of a factor in the petro-economy and its government has kept a byzantine control over its production and currency controls. Even with oil prices around $80 per barrel, the benefits have not trickled down to the country's citizens who are unable to purchase basic necessities.

What's Next: Venezuela does not represent a major risk to the US economy or trade. The U.S. imported $12.9 billion worth of goods and services from Venezuela in 2017, which was $1.2 billion more than 2016, according to the U.S Trade Representative. The EU and China are Venezuela's next largest trading partners, but they are also importing less from the country every year. The IMF projects that real GDP will shrink an additional 5 percent in 2019 as plummeting oil production and political and social instability continue. The main risk is to the Venezuelan people and a full blown crisis that has the capacity to turn into a revolution which could impact other South American countries.

#3 A Hedgie walks into a coffee shop...

.. and buys $900 million worth of its stock. That's kind of what Bill Ackman the activist investor behind Pershing Square Capital did in the past quarter. CNBC reports that Ackman revealed that his fund owns 15.2 million shares of Starbucks at an average cost of $51 per share. Shares of SBUX popped 2 percent on the news, putting Pershing's bet, 'in the money'.

Why it Matters: 2018 could represent a turnaround year for Ackman and Pershing. The hedge fund reportedly lost half of its assets since its peak in 2015 as investors fled following bad bets on companies like Valeant Pharmaceuticals and Herbalife. In 2018 the fund has posted a 15.8 percent YTD return as of September 30, 2018. Ackman bet on Starbucks because he believed the stock was undervalued following several quarters of declining sales in the U.S. He believes that Starbucks will see tremendous growth in China and is bullish on the company's share buyback program which represents 20 percent of the company's market value, per CNBC.

Ackman takes big bets… that's what hedge funds do. He had made an absolute fortune doing so since he opened his fund in 2004. According to Pershing's last annual report, the fund has posted a 13.6 percent compound annual return since inception to 2017. But, he has also had some spectacular losses. That's what hedge funds do. They hope for more wins than losses, but they play big hands and they often play multiple hands at once. Most of us cannot and will never operate at their level. We can learn from their investments and their rationale, but if we try to model our investments after theirs' we should not expect the same returns they generate when they win. They 'hedge' their bets, so it's hard for retail investors to have an accurate picture of what's really happening inside their portfolios at all times.

What's Next: Shares of Starbucks are basically flat from the beginning of the year and up a little over 4.8 percent from a year ago, underperforming the broader market. It is under new leadership since Howard Schultz stepped down from the CEO post for a second time and a new CFO was named just yesterday. The company is facing challenges on all fronts including more competition and pricing pressure as commodities rise. Ackman's investment is a sign of support for the company, but it does not make any of its challenges easier to overcome.

Read More:

Bill Ackman's Greatest Hits and Misses

How Starbucks Makes Money

Who are Starbucks Main Competitors?

Chart of the Day: Russell 2000 drops to 200-day MA, extending small-cap underperformance

If anyone needs any convincing that small-cap stocks have recently been underperforming large-caps by a substantial margin, the charts tell the whole story. The primary benchmark index for small caps is the Russell 2000 index, which is represented by the RUT symbol (chart below), while the main large-cap benchmark has traditionally been the S&P 500, or SPX.

While both indexes have generally been falling in the past several trading days, the Russell 2000's current decline began significantly before that of the S&P 500 – in early September versus the large-cap benchmark's early October downturn. This helps to reinforce the traditional view that small-cap stocks can sometimes serve as a leading indicator for the overall markets, as the Russell 2000's earlier decline helped pave the way for a later drop in large caps.

Even further evidence of small-cap underperformance lies in the positioning of major moving averages – specifically, the widely watched 200-day and 50-day moving averages. In uptrends, these indicators help measure the magnitude of a pullback. While SPX has just made a shallow pullback to its 50-day moving average, the chart below shows RUT having made a much deeper pullback to its 200-day moving average, after having broken down below its 50-day in late September. While this does not, in itself, indicate doomsday for small caps, any strong decline below the 200-day would have many market-watchers proclaiming the beginnings of a new bear market.