Since the global financial crisis of 2008, the U.S. housing market has consistently been one of the hottest investment sectors. Desperate to increase the velocity of consumer spending and to regain confidence amongst the American citizenry, government agencies, including the Federal Reserve, initiated several unprecedented programs designed to spark the economy. While results have been mixed — Detroit anyone? — real estate has enjoyed a sort of market renaissance. But with blue-chip equity indices finally beginning to show signs of wear, will bearish sentiment finally take down with it one of the brightest bulls of the post-recessionary paradigm?
In the interest of providing a level-headed presentation, one can only say probably. However, there are many indications that real estate, as an investment vehicle, is likely due for a correction. First, while housing proponents will argue that funds that track the performance of real estate metrics have outperformed many other sectors on a year-to-date basis, that oft-mentioned outperformance is clearly running out of gas. Take for example the SPDR S&P Homebuilders ETF (NYSEArca:XHB):
Since this year’s opening session, the XHB fund is up 7.06%. However, since peaking at a multi-year record close of $37.01 on February 24, the fund is actually down nearly -2.2% at time of writing (March 28). Recent trading activity also shows tight clustering, an indication that market velocity is heavily constrained or restricted.
Also troubling is the high degree of correlation between the XHB fund and the benchmark S&P 500 index. Using Pearson’s Correlation formula, the coefficient between XHB and the S&P index between February of 2006 until the end of March of this year is 0.76, confirmation of a high degree of direct correlation. What this means is that as the S&P moves higher in magnitude, so too does the XHB. Logically, the opposite is also true: as the S&P moves lower, the XHB loses out as well. And because the major indices haven’t been doing so well recently, it’s safe to assume that a chunk of the bearishness is also affecting real estate.
Finally, there is a statistical argument for caution. Over the past five weeks, XHB’s average performance is -0.21%. When the fund’s average performance falls between a range from -0.20% to -0.299%, the likelihood that the next five weeks will produce profitable gains is 56.4%. When bullish, the market returns on average 5.4%. When bearish, the market forces a loss of -5.5%. This tenth of a percent “margin” is what the investor gives up for the 6.4% advantage over 50/50 odds.
Adventurous investors may want to take the 6.4% advantage. In reality, such probabilities are only slightly better than what the S&P index naturally gives you. Considering the technical downturn that has affected both the blue-chips and real estate, investors may want to wait for better trading signals.