I’m a numbers guy

I’m a numbers guy, as you know.

And the numbers point to a particularly ugly moment coming soon – maybe 2023 or maybe 2024. But if we continue down this path, it’s going to hurt.

I’m worried about housing.

You see, according to the National Association of Home Builders, the housing industry accounts for between 15% and 18% of the U.S. economy. That includes buying the home and housing services. Hat tip to HGTV’s home remodeling shows for doing its part!

The problem is that the math says housing has to slow down. And that won’t be good for stocks.

Over the past couple of years, we had record low interest rates and skyrocketing home values. The trade was easy – borrow as much money as you can and buy or build houses. It was such an easy trade that whole businesses grew up around it.

Groups like Offerpad, Opendoor, HomeVestors, RedfinNow, Sunday, MarketPro and Homelight are all companies build around buying houses for cash. According to the Pew Trust, investors like those companies bought a quarter of all the single-family homes sold in 2021. In places like Florida, Nevada, Vermont and Washington state, investor purchases doubled from 2020 to 2021.

Here’s the problem…that trade is now over.

In order to fight inflation, the Federal Reserve made it more expensive to borrow money. They raised rates for three straight quarters.

Interest rates rose from under 2.75% in 2021 to 6.29% today, as you can see in the chart below:

It is now harder to make money buying homes and turning them into rentals or flipping them. With low interest rates, paying an extra 10% or 20% to get a home was okay. It’s much different when the interest rate triples.

Now you have a massive volume of homes in the hands of funds. And at some point, these businesses will need to sell down those assets to raise capital.

When they put the houses up for sale, they will be “motivated sellers”. And in a market with fewer buyers, that means home prices are going down. And it’s going to hurt those companies we talked about.

We’ll be revisiting “mark to market” accounting, as the value of their housing portfolios fall.

It’s not something I’m looking forward to (as a homeowner). But it should be an exciting time to buy stocks. Because we’ve seen this movie before.

I expect this to be a similar story as 2008. Except instead of fraud driving people into housing, it was free money. But in the end, we still have giant corporations owning massive portfolios of houses. And this time, we have a hard stop, in the form of much higher mortgage rates.

In 2008, the stock market crashed well before the housing market bottomed in 2011:

This is the chart of the Cash-Shiller Home Price Index over that same period:

As you can see, even as the stock market rallied, home prices languished. This is similar to what I expect to see in the future.

Stocks will find a bottom, but home prices will become the gloomy story for the news.

That means, we’ll want to focus on getting great stocks into our portfolio, in anticipation of the new bull market.

Sorry for the downer this week! Be cautious out there.

Good Investing,

Matt Badiali

P.S.: If you have any questions or just want to say “Hi”, drop us a line at wecare@mangroveinvestor.com. I’ll respond to questions in next week’s update.