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Is It Too Late to Trade the Housing Recovery?

As I begin this writing, the latest Case-Schiller results are being discussed.  They indicate that prices in the conglomerate were up .7% for the month of October as compared to the .5% increase that was expected.  Prices in the 20 cities index rose 4.3 percent year over year, beating expectations for a rise of 4.0 percent.   Yet the homebuilding stocks and the XHB, an exchange traded fund focused on housing related equities, are languishing so far today.   This sector has been one of the brightest spots of 2012.  The XHB is up roughly 50% year to date.  Many homebuilders have seen dramatic increases in their share prices as well this year.  Pulte homes (PHM) is up over 60% year to date.  An investment on January 2, 2012 in Lennar (LEN) would have given you almost a double on your money.   So what is the cause of the recent lethargy in this sector?  Look no further than Washington, D.C. for that answer.

For weeks now, the equity markets have “held their breath” as we watch the back-and-forth squabbling in Washington over the impending (5 days and counting) fiscal cliff.  This directly impacts the housing sectors as two key areas are being negotiated – namely the mortgage interest and property tax deductions.   Arguments can be made on both sides of these negotiations.   Real estate and building lobbies argue that maintaining the property tax and mortgage interest deductions are essential as housing has a key role in job creation and household wealth.  They also argue that the recovery seen in housing, particularly in 2012, is vulnerable as it has emerged from the recession and mortgage bust of 2007-2008.  Then there are those on the other side of the argument who see mortgage write-offs as unnecessary and costly, particularly favoring upper-income owners.  So who is right?  One way to gauge sentiment on these issues is to conduct polls of “average” Americans on this subject.

One such poll was recently conducted by National Journal, a publication widely distributed and read by members of Capitol Hill.  This poll of 1001 adults, released on December 11, 2012, found that 41% of respondents favored reducing the deductions for all homeowners, no matter their income level.  21% of these respondents favored limits on taxpayers earning more than $250,000/year, while just 31% favored retaining the current system.  This same survey found similar opinions on the property tax deduction: 42% favored limiting it for everyone, 19% support reducing it for higher income households and 31% favor no change.  What does all this mean?  Well it stands to reason that this poll indicates that, despite the housing industry’s arguments to the contrary, there appears to be a good deal of support for reducing current mortgage interest and property tax benefits, particularly for taxpayers with the highest income levels.

Not everyone agrees with the results of the National Journal poll.   If you read an earlier poll this year conducted by the National Association of Home Builders, you learned that 1500 likely voters responding to this survey indicated different opinions.   62% opposed any reduction to the mortgage interest deduction, while only 46% were in favor of deduction limits on households earning $250,000 or more.   Another even more recent poll conducted by the Pew Research Center sampled 1503 adults.  In this poll, 69% favored raising tax rates for households earning more than $250,000, yet only 41% support cutting back on mortgage interest deductions.

How does all of this information relate to trading the housing sector?  It helps to make sense of the fact that the sector as a whole– not unlike the rest of the market – has been stalled in its bullish momentum as we wait for Congress to come to some sort of fiscal cliff resolution.  What they decide on these two important tax issues will absolutely impact this important equity sector going forward.  Should a compromise be reached that is reflective of what the American public indicates is desired,  then this sector may continue to be a standout for 2013.  If they keep stalling and engaging in non-stop “political posturing”, then this sector may have topped out late in 2012 and be due for either a corrective phase or continued stagnancy.   How do you as an investor/trader handle this uncertainty?  If you are not currently invested in this area, you might be prudent to sit and wait until we have more clarity.  If you are already invested, you might wish to utilize options instruments to protect your investment and hedge against a potential bearish reaction.  Either way, the next week or so should prove to be interesting at the least!

Karen Smith
OptionsANIMAL Instructor

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