Investment Insights

Jeff Benjamin

Glimmer of hope in real estate sector sparks handicapping of early leaders

Timber REITs are gaining steam; demographics favor new construction

Jun 3, 2012 @ 12:01 am

By Jeff Benjamin

As economists and data wonks debate whether the U.S. housing market is at or near its bottom and heading into a recovery phase, this might be a good time to focus on some early leaders in the real estate sector.

For example, there is nothing quite like lumber as a leading indicator of new construction.

“You don't have to have a boom in the housing market to have a recovery in housing construction,” said Calvin Schnure, vice president of research with the National Association of Real Estate Investment Trusts.

He pointed to the concentrated category of timber-focused REITs as an indication of the direction of the housing market.

Timber REITs gained 7.6% last year and have gained about 9.6% so far this year.

“In order for timber REITs to have a couple of good years, we don't need a replay of the 2005-07 period; we just need to build enough houses to keep pace with population growth,” Mr. Schnure said.

Lumber prices, which tend to move in stride with the strengths and weaknesses in the overall housing market, declined by 34% between the peak in 2004 and the trough in 2008.

Since then, according to Mr. Schnure, lumber prices have been climbing, but they are still more than 20% below peak levels.

Not only is the timber market already showing signs of participation, there's no arguing with the demographic trends that favor a lot more construction over the next few years, he said.

“As of 2007, we had an overbuilt housing market in this country, but since then, new construction fell to less than half the pace of the needs related to population growth,” Mr. Schnure said.

When he considers the housing market, he is focusing on the contraction of homeowners since the housing bust, as well as the potential homeowners among the people born since 1990.

“The number of households headed by someone between the ages of 25 and 44 fell by 3.5 million during the housing crisis,” Mr. Schnure said. “They all doubled up, got roommates or moved into their parents' basement.”

"SOLID DEMAND'

All this lays the foundation for a “huge force that will sustain growth in the housing market,” he said. “It took a lot of time for this pent-up demand to build, and it won't lead to a huge boom, but it will mean solid demand over the next five years or more.”

Housing market watchers saw a glimmer of hope last week when the popular Case-Shiller Home Prices Index showed that home prices were essentially flat in March when adjusted for inflation.

“The market appears to be turning around,” said Adam Patti, chief executive of IndexIQ LLC, which manages $800 million in assets.

“Interest rates are still low, and there has been some delay in buying because people are trying to gauge the market's bottom,” said Mr. Patti, who runs the IQ U.S. Real Estate Small Cap ETF (ROOF), an exchange-traded fund that invests in the smallest REITs by market capitalization.

“We found that small-caps are generally a better play because they are underrepresented in most real estate portfolios, and they are typically the first to recover out of a recession or big drawdown.”

After being down 9% last year, the IQ U.S. Real Estate Small Cap ETF has gained about 13.5% so far this year.

Another way to leverage the housing market recovery is through such targeted ETFs as the iShares Dow Jones U.S. Home Construction ETF (ITB) and the SPDR S&P Homebuilders ETF (XHB).

The iShares ETF was down 9% last year but has gained about 34% so far this year.

The SPDR S&P Homebuilders ETF was down less than 1% last year but has gained about 26.1% this year.

Even those who aren't convinced that the housing market is in a recovery will admit that there are investment opportunities at current price levels.

“If you look carefully in places like Phoenix, Las Vegas and parts of Florida, you can find a nice house that's being foreclosed or up for a short sale for under $100,000,” said Keith Jurow, who writes the Housing Market Report for Minyanville.com.

In a report last week, he compared the housing crisis to the 1929 stock market crash.

"GROWING IMBALANCE'

“Do I see anything on the horizon that could turn things around and correct the growing imbalance between potential homebuyers and sellers?” Mr. Jurow wrote.

“No. Nothing whatsoever. Wishful thinking won't do it.”

However, Mr. Jurow does think that home prices are becoming attractive for aggressive buyers in select markets.

“There are some nice investment opportunities, but you have to be comfortable with the idea that prices could go lower,” he said.

Mr. Jurow advised lowball bidding, particularly if the house is being sold through the Department of Housing and Urban Development or a government-sponsored enterprise such as the Federal National Mortgage Association.

“If it's being sold by HUD or Fannie Mae, offer them anything,” he said. “They don't care what the price is, because it's just some bureaucrat in Washington.”

Questions, observations, stock tips? E-mail Jeff Benjamin at jbenjamin@investmentnews.com

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