Wednesday, August 24, 2005

Real Estate, Oil, or Durable Goods?

The past several days have been sort of a slow bleed in the Dow Industrials (and the precious metals). We have repeated our "sell all rallies" cry and the market has been getting rallies and then selling off so you all must have some clout with the amount of transactions you make. Seriously, the market wants to go down and it is starting to succumb to the beat of the down drum. It's now a question of how far can it go down over the next couple of months.

This morning we found out that durable goods orders for July were down 4.9%, after forecasts of down 1.5%. That was enough to keep the market down for the opening but then the new home sales set a new world record of 1.41 million on an annual rate. That report sent the market up on the day before the new world record oil price over $67 slammed the market for over 84 points in the Dow by the close.

These events are all bad even though the market celebrated the home sales. Durable goods orders represent the type of things that go into new homes like a fridge, a washing machine and a furnace/air conditioner but they showed down 4.9%. But new homes sales were up, you say. Well, that is true but underneath that number was the number of new homes on the market, the so called spec homes (speculation homes, the ones that builders build hoping for someone to come buy them). The unsold homes out there is at a very high 4 months of inventory, assuming the current rate of sales. What happens if the rate slows, that would mean the number of months of inventory would rise. Well, maybe higher oil isn't such a bad thing for the stock market but it seems bad to have it so high.

And, more real estate news as yesterday we heard that the existing home sales dropped unexpectedly and that inventory of existing homes were at a 4.6 months. These inventory levels are starting to show some signs of the real estate market getting tired, especially taking the inventory build of new homes in today's report. We want to keep a close watch on these developments as the next few months go by. Some whiff of weakening in the real estate market will have a dramatic effect on the stock market. We will see.

Meanwhile, the talking heads on the TV are not connecting the same dots we are. I had an opportunity to watch a couple of "experts" on TV on Monday talking about the continuing real estate boom. They seemed to think that 'bubbles" are a regional issue more than a national or international phenomenon. Our position is that the housing market has allowed people to spend beyond their means and if that changes people will change the way they spend money and it won't just be in California. It will change the structure of the economy, maybe the global economy but especially here at home in the USA. And, it will feed upon itself, just like it did on the way up. Real estate is a much more difficult asset to sell than stocks so the effect will develop over a little time, so the more immediate effect will be felt in the stock market.

We are keeping a close watch on our precious metals holdings as well and have been disappointed in the short term that they have dropped so much. Our last post indicated that the commitment of traders' report was a bit bearish and now the HUI has decided to drop below the recent low near 200. We want to see one more good rally from here to see if we should stay in or get out. We mentioned the True Contrarian's site and have now read it. He is deeply bullish on gold and silver and we are getting a little cautious in here. His report is that precious metals typically show a low in late August so we will hope that today was that low.


Dow Industrials: 10,434.87 -84.71 (let's see, we're under 10,500 again, look out)
BGEIX: 11.30

1 comment:

Anonymous said...

Welcome back. Enjoyed the read today. It appears the hiatus has served you well.

As the markets rallied the last couple of months, I'll be the first to say I've been a little nervous about my bearish positions. I've breathed a small sigh of relief as the markets have edged lower the last couple of days. Fortunately, most of my assets are in cash....chugging along at a 4-5% annual rate. Better to go up a little then to track sideways. Anyways, thanks for the write up. Enjoy reading it everyday.

My comment for you and the readers comes from everything I've read in the Wednesday Updates absense. If we look at what happened in Japan just a few years (10) ago, they went through a similar scenario in their real estate markets.

Here's some excerpts that summarizes better than I can...

Economic historians who have studied past busts point to two primary drivers: a drying up of liquidity – often through tighter lending standards or higher interest rates – or a serious economic shock, like an oil or currency crisis.

That's exactly what happened to Japan during its real estate crunch in the 1980s and 1990s.

They note that Japan's long economic boom provided fuel for wild lending stunts like Nippon Housing Loan Company's infamous 100-year mortgage, which was supposed to be paid off by the borrower's grandchildren.

In the United States, lenders have taken note of the lessons learned from Japan. Today, banks are selling increasingly exotic mortgages, such as interest-only loans and loans that backload interest and principal payments. But the key difference is they don't hold the loans. Instead, many sell them off to investors as bonds. That does protect individual banks, but it could spread the risk throughout the financial system.

Makes you wonder if we are heading down the same path?

Erick