Higher Rates Break Homebuilder Stocks

One of the bigger stories from the past couple of weeks is the historic move in interest rates. Rate hikes accelerated in June following May's higher than expected CPI report, which prompted the Federal Reserve to hike interest rates by 75 basis points for the first time since 1994 and sent the 2-year yield to its highest level since 2007. Moves on the long-end of the curve have been only slightly less extreme, with the 10-year yield hitting its highest level since 2011 and the 30-year yield briefly tagging 2014 levels.

Higher interest rates put significant pressure on homebuilders. As shown in the technical chart below, the S&P 500 Homebuilding Index recently declined through a major support level and extended its losses to more than 40% from the December high.

Technical analysis is a discipline employed to evaluate investments and identify opportunities in price trends and patterns seen on charts. Technical analysts believe past trading activity and price changes of a security can be valuable indicators of the security's future price movements.

“Expecting homebuilders to underperform amid skyrocketing interest rates isn’t exactly a bold call,” said LPL Financial Technical Market Strategist Scott Brown. “Our takeaway from the recent breakdown is that there is little reason to think this trade is over or the trend is on the verge of reversing.”

To demonstrate how significant the interest rate move is to potential home affordability, consider this scenario. A potential home buyer looking to purchase a $300,000 home, with a 20% down payment and a 30-year fixed rate mortgage (using the Bankrate.com National Average) would have experienced a monthly payment of $1,047 (principal & interest) at the end of last year when the average fixed rate 30 year mortgage was 3.27%. Today, the 5.91% mortgage rate would increase that monthly payment by 36% to $1,425 (principal & interest). That doesn’t even begin to factor in the other inflationary forces that consumers are battling right now such as the increase costs of housing. From a purely technical standpoint, we expect to see interest rates move higher and would expect homebuilders to continue to underperform.

LPL Research’s Strategic and Tactical Asset Allocation Committee (STAAC) remains firmly negative on the Consumer Discretionary sector, which includes homebuilding stocks. Weakness is certainly not limited to homebuilders. More than 90% of stocks in the Consumer Discretionary sector are below their respective 200-day moving averages and the sector is the worst-performing year-to-date with a more than 30% loss.

Our Covenant Wealth Strategies Investment Team is closely paying attention to market signals - including both fundamentals and technicals – in an effort to make wise and appropriate choices in our investment portfolios. We are also executing tax loss harvesting strategies in non-qualified accounts to take advantage of the volatility. We offer a variety of different investment models to our clients. In our Protect and Advance models, we have also been scaling risk out to dampen volatility and protect on the downside.

If you have specific questions related to your own investments or financial planning needs, we welcome you to contact us to set-up time to discuss how we can assist you.


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All index data from FactSet and MarketWatch.

This Research material was prepared by LPL Financial, LLC.