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Home is where the investors heart is
In a time of on-and-off recovery, real estate seems an increasingly safe haven. Here are 8 stocks to play the trend without a 30-year commitment.
By Jon D. Markman
Three months ago, Terry Thompson, ad sales director for the nation's largest chain of recreational vehicle magazines, was pumped. Highways, the official magazine of RV enthusiasts popular Good Sam Club, had booked its biggest April ever -- about 65 pages of ads. And reports from the field suggested that dealers sensed the industry was finally on the road to recovery after a difficult couple of years.
In the past few weeks, however, Thompsons enthusiasm has waned. August ad sales at Highways, he reports, are the worst in five years. Ive never felt so challenged, said the 20-year industry veteran.
The RV market's emotional and financial U-turn sums up the economy these days, as optimism in almost every corner of the nation's industrial base has flattened in synch with the stock market. From automakers to semiconductor makers, from hamburger sellers to electricity sellers, the second quarter of 2002 is shaping up to be a pale shadow of the first. Shares of Winnebago (WGO, news, msgs), a top-selling U.S. maker of RVs, were up 190% from January 2001 to May 2002, but have since stalled.
Thats not to say sales everywhere are abysmal, by any means. But after the tremendous sequential growth experienced by businesses from January to March, compared with October to December, the current period is being experienced as a letdown by virtually everyone but homebuilders and mortgage lenders.
Before moving on to ideas on some stocks in the right location, location, location for housing trends, lets survey the economic landscape.
Bulls vs. bears: Who's right?
First, the (mildly) good news: There is little doubt among economists that the world experienced a synchronized global recovery in the first quarter of 2002, following the cyclical downturn of 200. Thats what you would expect in the wake of 200 central bank easings around the globe. In the past two weeks, governments have reported that U.S. employment has precariously stabilized, German real manufacturing orders have turned up and Tokyo consumer confidence has turned up.
The problem is that the recovery is stalling, if it hasnt completely halted. According to economists at International Strategy & Investment, industrial production in this recovery is off to the slowest start for any recovery in the past four decades possibly because the recession that preceded it was relatively modest in real terms (e.g., units sold) though it was harsh in nominal terms (units plus price). In 1971, industrial production was up 8.2% in the first five months of recovery from recession; in 1975, +10.7%; in 1983, +8.2%; in 1991, +6.2%. In 2002, industrial production is up just 3.4% -- half the previous slowest rate.
In addition, the annual rate of what economists call nominal final sales -- thats gross sales minus sales that are tagged as inventory replenishment -- is also off to the slowest start in the first quarter of any recovery in the past 40 years. In 1971, nominal final sales were up 11.6% in the first quarter after the recession was declared over; in 1975, +10.5%, in 1983, +7.1%; in 1991, +5.4%. This year, theyre up just 3%.
The pace of acceleration in the second quarter has slowed relative to the first quarter activity is just bumping along, said Karina Mayer, an ISI economist. And the mental outlook is relatively depressed. Businesses are saying, OK, Im up sequentially but Im down from last year.
ISI researchers believe that weekly economic numbers will continue to indicate a second-quarter stall but by mid-summer should point to a re-acceleration in the third quarter. For now, theyre giving mixed signals:- Bears will note that ISIs weekly surveys of current sales results at retailers, auto dealers, manufacturers, homebuilders, banks, technology companies and airlines suggest the recovery has softened; that the Economic Cycle Research Institutes weekly leading indicator has hiccupped; and that First Calls tally of upward analyst earnings estimates has flattened.
- Bulls, in contrast, will point out three signs of strength: Commodity prices are still rising, signaling demand; consumer confidence is strengthening; and the nations money supply is beginning to reaccelerate.
Each side has plenty of additional ammo that it can lob at the other camp. One of the most persuasive arguments for the bears, according to ISI, is the fact that economic activity has been artificially lifted in recent months by at least seven positive effects that are now ebbing: Tax rebates, a post-9/11 defiance rebound; 0% auto financing; home mortgage refinancing; warm weather coupled with low oil prices; tax cuts; and tax refunds. The end-of-May decline in the latter is quite striking, as shown in the following table:
| Tax Refunds | | | Monthly rate | Year/Year | | | (billions) | % Chg. | | Jan | $7 | 8% | | Feb | $52 | 20% | | Mar | $43 | 20% | | Apr | $41 | 25% | | May | $35 | 21% | | May 10 | $37 | 21% | | May 17 | $35 | 25% | | May 24 | $25 | 3% |
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A spare bullet for the bulls is evidence that the manufacturing sector is still gaining strength. Although the latest comparable-store sales reports show that consumer spending at broad-line and specialty retailers faltered in May, the latest figures from the Institute of Supply Management shows that manufacturing orders continue to turn up. ISI says its company surveys suggest that trucking and chemical suppliers are particularly strong, while capital goods suppliers, such as tractor makers and tool manufacturers, are weaker.
No real estate bubble -- yet
All of this uncertainty, combined with accelerating fears that the stock-market game is completely crooked, has fueled the ongoing boom in home prices across America as investors shift more new funds into real estate rather than into stocks. ISI has compiled a list of seven reasons that individuals are finding real estate more attractive than stocks:- Home prices keep going up at the same time that prospects for alternatives (stocks, bonds and cash) appear increasingly poor.
- Individuals are increasingly viewing an investment in housing as a fourth asset class, after cash, bonds and stocks.
- Housing has several unique characteristics as an investment: Prices are seen as always rising given a long enough time horizon, mortgage interest is deductible, capital gains taxes are limited; refinancing is a cinch; there are no margin calls; the leverage potential is huge; you can live in a house if all else fails; and theyre more fun to look at than a 401(k).
- Financing is incredibly easy, and Fannie Mae provides a virtually unlimited source of funds, at least for now.
- The demand scenario for housing is favorable, as immigration, a rising birth rate and second homes fuel interest at a time when supply is limited in the best locales.
- If inflation slows in 2002, as it typically does after a recession, bond yields, and thus mortgage rates, will probably decline -- fueling a strong market for housing into 2003.
- Home prices are heating up around the world, particularly in Europe.
Many observers have contended that the U.S. real-estate market is in a bubble that will burst as soon as stocks come back. But housing prices in the United States are nothing compared with the United Kingdom, where the ratio between average income and home prices has soared to 8:1, versus just 3:1 here.
ISI economists believe that U.S. home prices are not in a bubble now, but could enter one in 2003, pointing out that residential investment as a percentage of disposable personal income currently is at 6.1% -- a figure thats up from a low of around 4% in 1990, but well off the 9% level seen in 1955, the 8% level of the 1970s or the 6.8% level of the mid-1980s.
Indeed, mortgage rates are extremely low relative to the inflation rate of wages, suggesting that at a time when stock prices are at record highs relative to earnings, housing is more affordable than ever for the average American. That has fueled a real boom in homeownership, which is bullish. The ownership rate, which peaked in the early 1980s at 65.5%, fell to a low of 63.5% in the late '80s and early '90s. It has steadily accelerated since and is now heading straight up; at the end of March this year, 67.9% of Americans owned their own homes, according to government data.
The distinction between rates of return in the overall economy versus real estate has led to the most dramatic distinction of all between the housing market and all other industries: Banks have been increasing their loan exposure to real estate at an ever-increasing rate since 1999, while at the same time steadily cutting back on their commercial and industrial loans. Bank C&I loans, as theyre known, have slowed to around $1 trillion outstanding from their peak at the start of 2001.
Home improvement
How to take advantage of this trend via stocks, presuming you are one of the two thirds of Americans who already owns a house or two?
Since June of last year, our StockScouter rating system has been high on the shares of homebuilders, regional banks and thrifts (which lend to homebuyers), real-estate investment trusts and the manufacturers of peripheral items such as carpets and couches and lawn mowers. A 10-stock June 2001 portfolio created using Scouter metrics is up 26% -- almost exactly the reverse of the 26.6% decline in the S&P 500 Index ($INX) over that time. Likewise for Scouters 10-stock July 2001 portfolio (+19%), which included three thrift or regional bank stocks; as well as portfolios for every month since.
The current list of top-ranked StockScouter choices, shown in my May 29 column, continues to include several housing-related stocks. A handful to consider, all rated 9 or higher on a scale of 1 to 10, are listed in the table below. I will track these shares over the next year and report back periodically.
| StockScouter's housing picks | | Company | Ticker | 6/6/02 price | P/E ratio | | Countrywide Credit Industries | CCR | $47.55 | 11.3 | | Hudson United Bancorp | HU | $30.24 | 12.2 | | Annaly Mortgage Management | NLY | $19.41 | 7.9 | | Deltic Timber | DEL | $31.20 | n/a | | M/I Schottenstein Homes | MHO | $65.84 | 8.6 | | Apex Mortgage Capital | AXM | $14.61 | 5.1 | | Cathay Bancorp | CATY | $40.88 | 16.6 | | First BanCorp | FBP | $34.30 | 12.5 |
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Fine Print
Due to a calculation error, a table in my May 22 column, 20 stocks in the path of a goodwill asteroid, incorrectly listed Quebecor World (IQW, news, msgs) as a company with a high level of goodwill relative to its market capitalization. I have removed Quebecor World from the table, and replaced it with Equifax (EFX, news, msgs). Deltic Timber is an interesting company: In addition to owning and managing 400,000 acres of timber in Arkansas and Louisiana, it develops residential real estate in Arkansas. See its Web site here. Cathay Bancorp serves mostly Chinese and Vietnamese residents of Los Angeles, but it also has branches in New York and Houston; more than 60% of its loans are for residential real estate. First BanCorp has got one of those horrible corporate-speak financial services names, but its business at least is interesting: Its the holding company for FirstBank Puerto Rico, which offers retail banking, and residential, consumer and commercial real estate loans and insurance throughout the commonwealth and the U.S. Virgin Islands. Most the major Puerto Rican bank shares have done well over the past two years, including the first stock I personally bought last July based in large part to its high StockScouter rating, W Holding (WHI, news, msgs).
While Jon Markman cannot provide personalized investment advice or recommendations, he invites you to send comments on his column to 7jonmail@microsoft.com. At the time of publication, he owned or controlled shares in the following equities mentioned in this column: W Holding.
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