Joe Duarte’s Smart Money Trading Strategy Weekly

By Joe Duarte Editor Joe Duarte in the Money Options

Ignore the Hype.  Kick the Tires.  Believe What You See.  Getting Granular on Housing.

June 23, 2024

The Wall Street hype machine is focusing on the AI stocks while breathlessly panicking over old data which paints the housing market as falling apart. 

Before panicking – look around!

Don’t get me wrong.  I’m a big fan of tech stocks.  Moreover, today’s technology advances are likely just scratching the surface of what’s possible.   But tech is a bit overextended currently. And my contrarian senses are pointing me to broaden my horizons.

Change is Everywhere

The world is changing, politically and economically. There will be positives and negatives which will spawn new long term investing opportunities.

Last week, the Swiss National Bank (SNB) joined the European Centra Bank (ECB) and the Bank of Canada (ECB) in lowering interest rates.  Meanwhile, the Fed is sticking to its “higher for longer” guns as the U.S. economy continues to show signs of slowing.

The moves in Europe seem to be justified by across the board weakness in recent PMI data.  On the other hand, the most recent purchasing manager’s data for the U.S. shows a potential rebound is in the works.

Divergent data is likely to persist and the stock market will likely remain bumpy.  So, in case you missed it last week, here’s how to handle things:

• Expect the unexpected; especially during the current shifting economic sands and the volatile p geopolitical climate – THERE ARE NO SURPRISES – JUST EVENTS;
• Stay patient and stick with what’s working – if any position holds up, keep it;
• Raise cash, trade small, and hedge as necessary;
• Consider trading options to reduce market exposure; and
• Don’t worry – I’m compiling a shopping list.

Shifting Gears

An overlooked area of the market is the housing sector, which of late has been hammered by bad press.  Even you tubers are making a living showing vacant apartment complexes.  Thus, my contrarian instincts have been alerted.  A recent post by John Williams suggests that Austin, Texas may be the next housing market to crumble.  It’s certainly plausible. But an increase in supply when there is plenty of demand may be bullish for homebuilders and realtors.  In addition, there are other markets beyond Austin, which are likely to benefit from any population decline there.

Therefore, this is a great time to get back to the fundamentals of the housing market.

Getting Granular on Housing

Regular readers may wonder why I follow the housing market so closely. The simple answer is that housing is a pure play between supply and demand and interest rates.  Indeed, following the homebuilder stocks offers a direct view into both the real economy and the stock market.

In other words, trading the housing sector is straight forward because the variables involved are easy to follow and the activity in the sector easily confirmed by visual inspection.

When the economy is steady and interest rates are favorable, the homebuilders tend to do well. You can visually confirm what you see on price charts by driving by new developments or by gauging the number of For Sale and SOLD signs in neighborhoods.  

By the same token, if the homebuilder stocks are not going anywhere but you see people buying new houses, then you’re ahead of the curve.  If the Wall Street hype is loudly proclaiming that homebuilder stocks are going to the moon, but you can’t quantify that via visual inspection – no one is buying houses as far as you can see - the odds favor an imminent correction is likely.

And right now, while the news is grim, and I’m seeing a bit of a pickup in activity.  That’s exciting.

But perhaps the most fundamentally solid reason for keeping tabs on housing is that, when all aspects of the sector ranging from homebuilding to materials and to accessories such as furniture and appliances, the sector accounts for 16% of GDP.  In comparison, the technology sector accounts for less than 9% of GDP.

Thus, housing contributes twice as much to GDP as technology.  And that makes sense, for while anyone can do without the latest AI related gadget or chip, it’s difficult to live without a roof over your head.

As a result, homebuilder stocks are the proverbial canary in the coal mine for economic trends.  For example, during the pandemic, homebuilding initially ground to a halt.  But the move out of cities to the country and from the coasts to the southern U.S. in combination with the record low interest rates from the Fed created a huge rally in the sector.  I could see that by monitoring building and sales activity as the number of out of state license plates in my area increased.

Currently, I’m seeing license plates and U-Haul trucks. Apartment and home building has slowed. And buyer activity is starting to pick up. 

All of which brings me to my latest analysis of the sector, which is moderately bullish given the tight supplies, the high demand, and the stealthy decline in mortgage rates over the last few weeks.  I summed it all up here.

Bottom Line

The interest rate environment is improving for homebuilders.  Mortgage rates have fallen below 7% for the past three weeks.  That’s bullish.

The U.S. Ten Year Note yield (TNX) is below its 200-day moving average.  Thus, until proven otherwise, bond traders are betting on a slower economy and perhaps a slowing, or possible reversal in inflation.  That’s bullish until proven otherwise.

The average 30-year mortgage is now below 7%.  Let’s see what happens in the next couple of weeks when it comes to buyers in the market. If I’m right, activity will pick up and the odds are that Wall Street and the mainstream media will scramble to catch up.  That’s bullish.

The iShares U.S. Home Construction ETF (ITB) is consolidating.  Regardless of how frustrating this trading pattern may be, it’s neutral. That means that the smart money is more than happy to wait for the next upswing and is adding to long term holdings.  That’s encouraging.

Meanwhile, the rental market is also consolidating. The iShares U.S. Real Estate Market ETF (IYR) is also in a consolation pattern, mirroring the action in ITB.   That’s also encouraging.

What’s the bottom line?

• Sentiment is getting worse by the minute;
• Interest rates and mortgage rates are improving;
• Supply and demand remain in favor of homebuilders and well placed home rental REITs;
• The migration to the South is still active;
• Market timing in housing is picking up;
• The smart money is waiting patiently for the next upturn in the cycle.

What could go wrong?  Rising interest rates and failing job markets would upend the bullish case.

I’ve been bottom fishing in the homebuilder and REIT pond lately and you can review what I’ve caught with a FREE Two Week trial to Joe Duarte in the Money Options.com.

ETFs make sense in this market as they let you trade sectors which can withstand inflation and volatility. My new service, Joe Duarte’s Sector Selector is all about ETFs and tactical trading.  It’s FREE with your monthly membership to Buy Me a Coffee.  Sign up here.

Market Breadth Remains Squishy

The Nasdaq 100 and the S&P 500 have recently made new highs which remain unconfirmed by New York Stock Exchange Advance Decline line (NYAD). This is a small, but noticeable negative technical divergence.  Keep an eye on the NYAD’s 50-day moving average which has been an excellent support level since the November 2023 bottom.

The Nasdaq 100 Index (NDX) has pulled back just short of 20,000 as AI stocks paused.  The RSI is still overbought and ADI and OBV are in short term pause mode. We could see a move back to 19,000 in the short term.

The S&P 500 (SPX) is offering a similar technical picture to NDX, after recently flirting with 5500. Both ADI and OBV have rolled over mildly, while the index is also overbought. 

VIX Rises Above 13, but Shows No Signs of Panic

The CBOE Volatility Index (VIX), moved above 13, slightly rising.  A move above 15-16 would be very bearish.

VIX rises when traders buy large volumes of put options.  Rising put option volume leads market makers to sell stock index futures to hedge their risk and leads markets lower.  A fall in VIX is bullish signaling lower put option volume, eventually leads to call buying which is bullish as it causes market makers to buy stock index futures raising the odds of higher stock prices.

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Joe Duarte is a former money manager, an active trader and a widely recognized independent stock market analyst since 1987. He is author of eight investment books, including the best selling Trading Options for Dummies, rated a TOP Options Book for 2018 by Benzinga.com - now in its third edition, The Everything Investing in your 20s and 30s and six other trading books.

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