As the housing market transitions to a more traditional cycle, we expect the first time buyer and existing homeowner to energize sales. At the current 4.5% rate, mortgages remain affordable. The mortgage debt-to-income payments as a proportion to median income is currently at favorable 19.8%, well-below the long-term average of 24.1%. The recent rise in home prices has negatively impacted affordability, particularly for first-time homebuyers, as down payments increase along with qualifying income. In January 2014 these buyers accounted for 26.1% of purchases of existing homes, substantially lower than the long-term average of about 40%. Despite these negatives, the NAR Affordability Index for both existing and first time homebuyers remains at affordable levels. (The composite index at 168.1 for December 2013 is 21.3% above 2012.)
The most recent data on housing has many economists blaming the weather rather than a broader consumer retrenchment. Weather no doubt has affected consumer purchases, as well as the construction of homes. Somewhat troubling is the 7.3% decline in January existing home sales in the West. A flood maybe, but a drought, no. The sale price of existing homes rose 11.8% in 2013 and January 2014 inventory remains tight at 4.9 months’ supply. We anticipate a more modest rise in prices this year as the transition moves forward. The current level of housing starts at 880,000 units in January 2014 is about half of the 1.7-1.8 million average starts since the late-1990’s. Starts of single unit structures recently dropped below 70% of the total as the demand for rental property is reflected in the relative increase in multi-unit starts.
Housing data are giving mixed signals, confusing economists and real estate professionals. Weather has been widely accepted as the logical excuse for the weak reports. Not unlike the decline in consumer retail spending (see Consumer in Hibernation, 2/18), housing is in transition and without confident buyers appears weak as nontraditional purchasers withdraw. This void should eventually be filled by first-time and existing homebuyers. Until there is a clear indication of improvement in consumer demand for housing, we would avoid this sector, particularly homebuilders.
Earnings season is just about over and again EPS beat analysts’ lowered estimates. According to FactSet, with 442 S&P companies reporting for 4Q2013, 72% have reported earnings above mean estimates and 65% have beaten mean revenue estimates. While the beat rate of companies on earnings is in line with one year (71%) and four year (73%) averages, the revenue beat rate at 65% is well-above the average for one year (54%) and four year (59%). Information Technology (82%), Healthcare (75%), and Financials (74%) are the major sectors above the total S&P 500. With 88% of the S&P 500 reporting year-over-year earnings, growth for 2013 is at 9.5%. As we move through 1Q2014 stocks appear fairly valued at 15.5X. Looking out into 1Q2014 consensus earnings estimates continue to be lowered. Should earnings be weak, the weather card will be played, but by then, more attention will be directed to Fed policy than the Polar Vortex.
Our investment strategy remains long-term optimistic on corporate equities. Questions are arising regarding sustainability of consumers’ willingness to spend and if the economy may need additional time and stimulation to transition to a normal business cycle recovery.
Hutchens Investment Management
Hutchens Investment Management