Housing Price Index - More Weakness In The Housing Market Coming?

The ECRI leading home price index is yet another indicator on the housing market which has gone negative. Higher interest rates are hurting home prices. And, the weakness in housing can easily lead to lower rates as economic growth slows.

People’s primary house is often their largest asset. This means when housing prices increase, there is a huge wealth effect that drives consumer spending.

When this wealth effect goes in reverse, consumers are going to start saving their money. The savings rate is already high, but it will go even higher if housing prices fall.

If housing prices cause economic weakness, stock prices will fall. The consumer will be faced with negative momentum for the first time this expansion.

Keep in mind, the home price leading index seen above is showing the weakest growth since 2009. The only good aspect of this decline, which should continue in the intermediate term, is housing will become more affordable.

There should be a sweet spot where the economy drives down prices and rates enough to make it a good time to buy a house. Then the situation will reverse.

Ultimately, this will be a normal housing cycle which won’t see a burst in defaults. The situation won’t be as clean for the stock market which will be faced with a spike in volatility if housing prices get worse.

Keep in mind, the latest Case Shiller housing price data shows growth is still 6% year over year. The problem is this is from July. Meaning growth has likely fallen since then. It recently peaked at 6.5% in March.

Housing Price Index - Stocks Selloff Sharply

The stock market sold off sharply on Thursday as the S&P 500 fell 0.82%. The Nasdaq declined 1.81% and the Russell 2000 fell 1.46%. The worst hit was emerging markets.

The EEM ETF fell 2.5%; it is down 5.18% since September 21st. Emerging markets are down 21.29% since January 26th. Unlike earlier in the year, this decline isn’t being caused by China as the Shanghai Composite is up 6.39% since September 17th.

The best sectors in the S&P 500 on Thursday were the financials and utilities which increased 0.71% and 0.55%. The financials had been underperforming the market even though rates have been increasing and the curve has been steeping.

That’s the perfect situation for financials which means they could continue to outperform. The two worst sectors were technology and consumer discretionary which fell 1.78% and 1.6%.

Social media stocks were crushed again as Facebook fell 2.2% to the lowest point since April. It is very cheap when you look at its PE multiple compared to its growth rate.

But the recent hack which compromised the security of 50 million accounts is the last thing the company needs as it is already facing so many other obstacles.

Housing Price Index - Treasury Market Falls Further

The headlines blamed the stock market decline on the bond market selloff. However, I find it odd because the big bond market selloff occurred on Wednesday when the stock market was flat.

The 10-year yield only increased 1 basis point to 3.19% on Thursday. If the 10-year yield increasing 12 basis points didn’t cause a problem for stocks, the 1 basis point increase on Thursday wasn’t the problem.

The 10-year yield is at its highest point since 2011. This is a problem if inflation is pushing yields higher. If it’s growth expectations pushing yields higher, higher rates are a good thing.

I think rising oil prices are worrying some investors. A weak housing market and rising oil prices is the set up in 2007 and 2008 which led to the last crisis.

The magnitude of the challenge is smaller, but it certainly justifies a correction. Oil now has a $74 handle. The latest housing market data is the weekly MBA mortgage applications report. It showed a 0% overall change after increasing 3% in the previous week.

The purchase index was up 0.1% and the refinance index was down 0.1%.

Finishing up the discussion on treasuries, the 2-year yield increased 1 basis point to 2.88%, meaning the difference between the 10-year yield and the 2-year yield is 31 basis points.

This is a huge swing from the 18 basis point difference in late August. Calls for more rate hikes and higher rates are coming fast and furious as traders pile on the momentum.

The chance of at least one more hike in 2018 is 83.3%. I’m still in the conservative camp that thinks long-term Treasury yields won’t move higher and that there will be 1-2 hikes next year after the hike in December.

Housing Price Index - American Outperformance Is Vast

The American market has been outperforming the rest of the world this year. As I mentioned earlier, emerging markets are cratering. American equity valuations are high in relation to the rest of the world.

The rebuttal most bulls give is the American technology sector is like no other in the world. Their powerful earnings growth is justifiably driving American stocks higher.

These internet names now are included in the tech sector, consumer discretionary sector, and the new communication services sector. The fact that these names now dominate 3 sectors is a testament to their size. I’m not debating the fact that American technology names are an important, sustainable reason for the great returns in U.S. stocks.

However, there is a good argument that the American economy won’t continue to outperform global economies for much longer.

As you can see from the chart above, the current difference between the American ISM and world PMI is enormous. It’s almost at 2 standard deviations.

To be fair, the American economy isn’t as strong as the ISM manufacturing PMI indicates. However, the September Markit manufacturing PMI was also strong.

The Markit PMI also suggests the American economy is outperforming. The Markit composite was 53.9 in American and the JP Morgan global index was 53. The Markit services index brings America closer to the rest of the world.

For the year, America outperformed, but it may be beginning to come back to earth.