Housing Downturn Making Itself Felt in ETFs

Mortgage rates may go higher, bringing more pain to homebuilder funds.

Reviewed by: Heather Bell
Edited by: Heather Bell

What a difference a year has made in the housing market. 

Toward the end of 2021, homebuilder exchange-traded funds and stocks were at all-time highs, as favorable interest rates, low housing inventories and COVID-19-fueled demand charged the market. Ten months later, the situation has reversed.  

A doubling of mortgage rates, thanks to the Federal Reserve’s five interest rate hikes so far this year, has sent home loan demand into a tailspin. Demand for mortgages hit a 25-year low this month, according to the Mortgage Bankers Association. The spike in mortgage costs as inflation surges and the stock market wallows in bear territory suggests the housing market is set for a major cooldown.  

Indeed, home prices fell at the fastest rate in their history in July from the previous month, according to S&P CoreLogic Case-Shiller Indices. While July prices were still higher year over year, the immediate picture appears to be turning grimmer. The National Association of Home Builders (NAHB)/Wells Fargo Housing Market Index (HMI), which measures homebuilder sentiment, is now at 38, its lowest level since 2012, and less than half its level in April. 

Significant Downturn 

Unsurprisingly, the two homebuilder ETFs have suffered steep declines and significant outflows this year. The SPDR S&P Homebuilders ETF (XHB) and the iShares U.S. Home Construction ETF (ITB) were up more than 49% in 2021, while SPY was up nearly 30%. Now the funds are down 34% and 35.5%, respectively, while SPY is down a little less than 24%.  

They’ve also shrunk, with both shedding two-thirds of their assets this year. XHB currently has roughly $840 million, down from $2.5 billion at the end of 2021, while ITB stands at about $1 billion, down from $3.2 billion. Those funds have seen outflows of $959 million and $1.1 billion, respectively, so far this year.  

ITB and XHB launched four months apart in 2006, shortly before the Great Financial Crisis and the last major housing disaster. From the end of June 2006 through mid-2009, XHB was down as much as 75%, while ITB slumped by nearly 85%.  

The last housing crisis, however, didn’t feature record-breaking inflation. So this time around things might be even worse. 

Costs for construction materials remain high even with recent moderation. That, paired with higher financing costs (with more interest rate hikes expected), is creating a double whammy for the industry, which is made worse by the falloff in demand. If the trajectory of homebuilder stocks during the last housing market meltdown is any benchmark, more declines are ahead. 

Differences Between the ETFs 
ITB has the broader portfolio, with 50 components in its index, versus 36 stocks in XHB’s index. Lately, the funds have moved in lockstep, but that difference in holdings could be more relevant going forward.  

XHB has nine holdings—with a combined weight equal to nearly one-third of the index, that are not in ITB’s portfolio. None of those actually builds homes; they make things like homebuilding supplies and systems, appliances and furnishings.  

In fact, only about 25% of XHB’s weight is invested in companies that actually build homes, while more than half of ITB’s weight is in those types of companies. The big question is whether that diversification from homebuilding companies will benefit XHB as much when inflation is so high and when interest rates are on an upward trajectory.  

The homebuilding industry appears poised for further tough times. Investors may want to seek shelter elsewhere.  



Source: Bloomberg, 6/30/2006-10/14/2022 


Contact Heather Bell at [email protected] 

Heather Bell is a former managing editor of etf.com. She has also held editorial positions at Dow Jones Indexes and Lehman Brothers. Bell is a graduate of Dartmouth college and resides in the Denver area with her two dogs.