foxex: Bank Reports versus Housing Data

Chart Advisor | INVESTOPEDIA

Focus on the Price

By John Jagerson, CFA, CMT

Wednesday, January 16, 2019

1. Is the housing market in decline?

2. Treasury bonds still hanging out near highs

3. Earnings data better than expected - so far

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Major Moves

There have been a few headlines over the last two days that home sales have dropped off significantly over the last month. The brokerage Redfin released data that showed home sales declined 11% in December which, from an economic perspective, is a little alarming.

Normally, I would look to see what the Census Bureau is reporting for new home sales last month. Although the data set is different than Redfin's it should be able to provide confirmation. Unfortunately, that data is unavailable due to the government shutdown.

The last time the Census Bureau reported new home sales was for October, when they revealed that there is over seven months of inventory on the market. As you can see in the following chart, inventory hasn't been this high since the US housing market was working down the glut of production prior to the financial crisis. Based on October's information, Redfin's data looks more reasonable.

S&P 500

However, what strikes me most about this data is that it doesn't seem to match bank earnings reports this week. For example, Bank of America (BAC) reported that average loans and leases grew $6 billion (5%) in the fourth quarter driven by mortgages. The other banks that reported this week (JPM, GS, C, etc.) mostly reported similar increases in lending activity.

One explanation for this contradictory information is that Redfin's data is over reliant on the high-end portion of the housing market, which could make it less representative of the total US housing market. It is also possible that new home construction is outpacing demand even though both measures are rising. Either of those two factors would be concerning; however, they would not be as worrisome as a slowdown in total demand for homes.

Currently, I would put more weight on the earnings reports from the banks until we are able to get reliable long-term information from the Census Bureau. However, negative headlines like this still make me a little nervous when they appear just as the S&P 500 is approaching resistance in the $2640 range. This is the same pivot level that acted as support in October and November, and it is roughly equal to support following the selloff in the first quarter last year.

From a technical perspective, we care about these pivot ranges because traders are often "anchored" to those price levels and are prone to make changes at that same level. As you can see in the following chart, the $2640 range is also the 50% retracement level of last year's decline. If we were trying to project where the market will pause (even temporarily) that price range would be a good estimate. News that looks bad for the housing market could make traders even more jumpy, which increases the potential for a reversal at this level.

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Source: finviz.com

Risk Indicators

Although most risk indicators remain calm, I was surprised to see long-term U.S. Treasury bonds claw their way back up to breakeven today. If U.S. Treasury bonds are rising in value, then long-term interest rates are falling. That kind of behavior is unexpected during the same week the big US banks reported their all-time highest cumulative profits. And what we have seen so far doesn't even include Morgan Stanley's (MS) report that we will see tomorrow.

The big banks are lending more and earning more on the interest yield spread than they have in a long time. Robust hiring, strong consumer confidence, and record bank profits would normally be correlated with rising interest rates and falling U.S. Treasury bonds. However, as you can see in the following chart, long-term bonds, as represented by iShare's 20+ Year Treasury Bond ETF (TLT), have come nowhere near retracing 50% of their gains that were created during the markets decline.

The disconnect between long-term U.S. Treasury bonds and stock returns isn't something I would worry about yet, but this is worth watching. I suspect the primary issue here is safe-haven buying by investors concerned about the Brexit deadline in March and the US government shutdown. Both issues are independent of market fundamentals and are, therefore, very difficult to forecast.

So far, we haven't seen investors panic over the shutdown yet, and British Prime Minister Teresa May, has survived another no-confidence vote today in Parliament. If the outlook for those issues starts to worsen I would expect to see it in retail stocks like Walmart (WMT) and Target (TGT) first.

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Bottom line: Putting Past Selling in Perspective

Earnings season has just begun and looks good so far. Even when adjusting for the one-time effect of the 2017 tax cuts, the bank reports are much better than expected. Analyst estimates for fourth quarter profit growth across the S&P 500 was most recently around 11%, but based on what we've seen so far I think the actual results will be much better. Although, political uncertainty (shutdown, Brexit, trade, etc.) remain the most likely potential spoilers for the rally I expect that investors will continue to be anxious to buy any short-term dips.

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