Time to Short Housing Stocks

I love it when something doesn’t smell right.

Nothing makes me smile more than when a two-faced CEO touts more future profits in the next quarter than his whole trade is likely to make in the next year…

And I’ve been known to grin like the village idiot when a bureaucrat’s data set doesn’t match the facts on the ground.

Strong disparities between truth and talk — hope and wisdom, facts and fiction, heartbeat and deadbeat — almost always indicate a chance to make a lot of money.

Warning: Thick Content Coming!

Now once again, I have to warn you that I am going to get deep here. Some folks like this sort of thing, and some find it a total waste of their time.

If you just want the play, feel free to skim through all the analysis and grab the put option contract that’s listed at the end of the article. Heck, you’ll probably make just as much money if you do.

For those of you that like to play around with psychonomics, then join me as we head down the rabbit hole…

Knowledge = Fear = Cold, Hard Cash

The best opportunities come when the aggregate information flow indicates that a meme — a discrete virally-transmissible idea — is absolutely dead in the water… even underwater!

But for one reason or another, Wall Street is still holding a torch for an asset class that absolutely depends on that meme — that discrete idea — for survival.

Right now, real estate is offering a classic example of this sort of mental flat-line cash opportunity.

Here is a memetic trend chart (click to enlarge) that tracks the declining uptake of the very idea of real estate.

We’ll get to the reality in a moment. But right now you should note the coordination between the spike in negative news articles and the collapse in the number of Google searches for “new home”.

Simply put, the more folks hear the facts about real estate (particularly, newly built inventory), the less they like the smell of it.

And while the herd is occasionally — even frequently — out of its damned mind, I find this particular collective response to be unusually rational.

Deep Background

I know that a lot of the wise guys out there like to think that they can spot oversold assets like some kind of mad-assed stock hunting vulture. But sometimes that whole contrarian “blood in the streets” buy-cheap-sell-dear idea comes up waaay short.

For years now we’ve heard that real estate is the secret deal because it is “just about to turn the corner.” And yet, we can clearly see from most every poll that houses, new or old, are just not a rational investment right now… and neither are the folks that build them.

For the better part of a decade, the game was rigged in favor of a massive inventory build up, so we put spit-and-cardboard houses just about anywhere we could cram them in, and spun off the risk involved into now infamous multi-tranche mortgage bonds.

How Low is Down?

The crash that followed is now well known. But Wall Street still overlooks the depth of the crash’s consequences.

The broadest consequence of all has to be that we are still talking about acknowledged 8.999% unemployment and roughly twice that in underemployment, wherein folks with advanced degrees have settled for gigs at McDonalds just to keep body and soul together.

Don’t get too stirred up about recent minor spending increases; no one is spending that money willingly, let alone happily.

The latest figures out of Thompson Reuters and the University of Michigan put consumer sentiment at its lowest ebb in over a year.

Brass tacks: Those newly-liberated bucks are mostly being spent on the two-bit necessities folks have been waiting to purchase for a couple of years now, fast food for the kids, and $4/gallon gasoline to get to work and back.

Yeah, yeah I know: “Improvement is supposed to be just around the corner,” right?

Maybe, maybe not. But somehow I don’t see an awful lot of people thinking, “Gosh, things might really look up sometime in the distant future, so I think I will jack up my mortgage payment 48%…”

Weak and Weaker Still

For a while, housing’s inherent weakness was papered over by Washington’s home buying tax credits. But now the lipstick has completely worn off this pig. Sales of used houses are coming off their worst year in at least a decade. At least 14 major markets are reporting sales price roll backs to 2003 levels.

But wait, it gets worse: New houses (I can’t stand that Orwellian new-speak language tweak: “homes”) are selling at their worst pace since 1963!

While used houses may be rotting on the market, at least you can buy a really nice one on the cheap. New houses, on the other hand, are truly terrible investments right now. The national median buying price for a new house is now 48% higher than a used house.

(To give you a sense of scale, I’m told that this gap is three times larger than you might see in a “normal” real estate market.)

As my uncle Harry used to say, “People may be dumb, but they aren’t stupid.” Residential construction is grinding to halt, with builders breaking ground for new projects at the lowest rate in some two years.

The Current Situation

With all this hideous news in the pipeline, any sane observer would figure the homebuilders as pretty much the worst place to put your money these days.

But these aren’t particularly sane days, and unfortunately, the Wall Street wise guys have figured builders and the various folks who supply them to be some kind of cool contrarian play. 

Wall Street’s stubborn perversity has pushed the Homebuilders ETF (NYSEArca: XHB) up some 125% over the past 12 months. This is the gap — and the opportunity — I spoke of earlier…

The public at large is totally aware of the terrible facts on the ground. But Wall Street has bought the entire sector to an astonishing — and untenable — high.

The technical charts do more than illustrate this inane buying; they show that the smarter hands are already heading for the door. And they show just how far the homebuilders and their friends are likely to tumble.

The best the XHB can hope for is a modest 6.15% drop to $17.08. More likely, we will see the ETF drop as far as $15.30 (-15.93%) before finding any sort of meaningful support. And really deep dips to $13.91 (-23.57%) or even $12.46 (-31.54%) are not out of the question.

Strategy and Tactics

I recommend that you look into XHB September 19 Put Contracts (XHB1117U19), available as I sit to write to you for $177, with a posted delta of 0.5072. As speculations go, this one is relatively cheap and just might be a whole lot of fun.

A drop to my chart’s initial target of $17.08 ought to drive this contract to $238 for fast gains of some 35%. My “reasonable” target of XHB $15.30 would push that to $329 for 86%, which is probably more than enough for any sane soul.

However, any cowboys out there interested in hanging on a little longer might look to my possible target of XHB $13.91 for gains exceeding 125%.

Two Short End Notes

First off, the Ford calls are doing rather well for us, with gains on record of roughly 60% — which really ought to be enough for a free tip, eh?

However, several folks wrote in asking if “F” can go further. Gotta tell you that I very much like the way shares beat the 50-day average. Should you stay in? Depends on how crazy you are feeling today.

Next up: A couple of old friends have written in asking if I am the same nasty old SOB who retired after a decade and change at “that other newsletter company.” Yes, I am.

Turns out, retirement did not sit at all well… In fact, my wife was about to shoot me if I didn’t get out from underfoot.

If you like what you are reading here, write in and tell them you want more, and maybe I will get off my duff and launch another full-fledged service for Angel Publishing.

What the heck — a body can only do so much farming before he goes nuts!

Sincerely yours,

Adam Lass
Editor, Wealth Daily