The housing market rebounded so fast that even a “V” doesn’t convey the shape of the industry’s recovery.
A Nike swoosh may be more appropriate.
Earlier this week, data from the National Association of Realtors (NAR) and Census Bureau showed that sales of new and existing homes in the U.S. surged to their loftiest levels since the housing bubble burst in 2006 and 2007.
Existing Home Sales
Like other industries, housing had seen a marked slowdown during the early part of the coronavirus pandemic. However, the combination of ultra-low interest rates and peoples’ desire for more space to ride out the virus storm has brought about a surprisingly strong rebound in the market.
At a seasonally adjusted annual rate of 6 million units, existing home sales were up 10.5% year-over-year in August, while new home sales, at 1 million units, were up a whopping 43.2% in the same period.
New Home Sales
At the current sales pace, unsold inventory amounts to a mere three months of supply, matching the 20-year low set last December. That, together with the spiking cost of lumber due to the California wildfires, have pushed housing prices up by 11.4% from a year ago, according to NAR.
More Houses Needed
With a clear need for more housing to meet demand, it’s obvious who will benefit: homebuilders. It’s no surprise then that stocks of these companies have performed extremely well in the past several months.
The $2.4 billion iShares U.S. Home Construction ETF (ITB) is up 22.6% since the start of the year, while the $1.4 billion SPDR S&P Homebuilders ETF (XHB) is up 14.9%, both better than the S&P 500, which is up 1.9% in the same period.
YTD Returns For ITB, XHB, S&P 500
Of the two funds, ITB is much more focused on homebuilders themselves. About two-thirds of its portfolio targets stocks like D.R. Horton, Lennar and NVR Inc.
Building products and home improvement retailer stocks are the next biggest groups in the ETF, making up about a quarter of the fund. Companies like TopBuild and Home Depot—also solid performers—are included in that part of the portfolio.
(Use our stock finder tool to find an ETF’s allocation to a certain stock.)
In contrast to ITB, XHB’s portfolio has a slightly larger weighting in building products companies (36%) compared to homebuilders (30%). The rest of the holdings are split relatively evenly between home improvement companies, home furnishing companies, home furnishing retailers and household appliance companies.
Despite their differences, both ITB and XHB are well-positioned to benefit in the event that the housing market continues to flourish, buoyed by low rates and a shift from cities to suburbs and apartments to houses.
Sector In The Dumps
With the housing market sizzling, you might expect the real estate sector to be doing quite well. On the contrary, the sector is the third-worst performer within the S&P 500. That’s because commercial real estate companies, which make up the bulk of the sector’s market capitalization, are struggling.
The $27.8 billion Vanguard Real Estate ETF (VNQ), which primarily holds commercial real estate investment trusts (REITs), is down 15.9% so far this year.
REITs develop, own and operate real estate, generating income for investors through rents and price appreciation. Yields on REITs are typically high, as they are required by law to pay out 90% of their taxable income as dividends to shareholders, but those high yields haven’t been enough to offset head winds from the coronavirus pandemic.
VNQ captures the entire U.S. publicly traded REIT universe. Its hefty exposure to segments like retail REITs, office REITs and hotel REITs has weighed on its performance in an environment where few are going to offices, shopping in brick-and-mortar stores or traveling compared to before the pandemic.
VNQ’s exposure to residential REITs, which often operate apartment complexes, hasn’t helped its performance either. In many cases, apartment rents are falling, as people abandon them for more spacious single-family homes (a few REITs do rent out single-family homes, but they make up a relatively small slice of the total space).
|Diversified Real Estate Activities||0.2%|
|Health Care REITs||8.5%|
|Hotel & Resort REITs||2.4%|
|Real Estate Development||0.2%|
|Real Estate Operating Companies||0.2%|
|Real Estate Services||2.7%|
A third option for real estate exposure is the up-and-coming Hoya Capital Housing ETF (HOMZ), which has $33 million in assets.
HOMZ doesn’t fit the typical sector or industry classification mold. It uses a proprietary index that combines residential REITs (30% weighting) with homebuilders (30%) and home improvement companies (20%), as well as housing technology companies (20%). Think Zillow and Redfin for the latter group.
This hybrid approach has resulted in a loss of 1.6% so far this year, somewhere between the returns for the homebuilder ETFs and the REIT ETFs.
With some raising concerns that the short-term trends working against commercial real estate may turn into long-term head winds, HOMZ—along with ITB and XHB—may be good options for exposure to the stronger parts of the real estate market.
On the other hand, for those willing to make the bet that things will eventually go back to the way they were before the pandemic, allowing commercial real estate to thrive again, REIT ETFs are currently available at discounted prices.
Email Sumit Roy at [email protected] or follow him on Twitter @sumitroy2