Housing & Energy Economic Review

By Chris Puplava, October 26 2006

In yesterday's Market Observation Mike Hartman commented on the housing and energy news that came out, and I wanted to add a few more details, charts, and include today's housing data as well.

Last week the National Association of Homebuilders (NAHB) released its Housing Market Index (HMI) which was up 1 point to 31 after falling for eight consecutive months, and the Census Bureau released housing starts data for September, which showed a 5.9% increase over August. The news releases and the financial media started talking about a bottom after just a few pieces of positive information, hardly a definitive conclusion to be made as no discernable positive trend has been established. The one point up tick is barely discernable when looking at the HMI figure below (lower right corner), and several minor up ticks in the index were seen in the slide from 1989 to the bottom seen in late 1990.

Figure 1. NAHB HMI

Source: Dismal Scientist, Data: National Association of Home Builders

The housing data showed that this trend for sales and prices is still down. Existing homes sales came out yesterday, showing that for the third quarter, total sales were down by an annualized 23% from the second quarter. This performance is the worst since the early 1990s. The greatest decline seen in the September report was in the west which showed nearly a 25% drop in sales over last year while the national decline was less than 15%.

Figure 2

Data: National Association of Realtors

The declining sales is corresponding to a decline in prices, both in the median and average price with national prices for both measures falling more than 2% over last year, and the South and the West showing the greatest average declines.

Figure 3

Data: National Association of Realtors

Median prices for single-family homes fell 2.5% from last year's levels, the largest drop on record. Does this sound like a bubble deflating? To put this into perspective, on a year-on-year (YOY) basis, the median price of a single-family home has now dropped for two straight months, marking only the second time this has occurred in the history of the NAR report, with the last time occurring in November and December of 1990.

Figure 4

Source: Asha Bangalore, The Northern Trust Company

The picture for condominiums is even darker as existing condominium sales are down more than 15% from last year's levels, with September's decline down 1.9% from August's levels. Interestingly, the West showed an actual rise in condominium sales for September over August sales, likely the result of falling prices, with the West showing the greatest decline in both average and median prices. The West's median and average price decline over last year is more than 4-fold greater than that seen by the national price decline.

Figure 5

Figure 6

Data: National Association of Realtors

One indicator of a housing bottom is the months supply on the market. A reversal in the rising trend in both housing and condominium inventories has not been seen yet, though the months of supply for existing homes has remained steady at 7.3 for the past three months while the months supply for condominiums has increased for eight consecutive months after a slight decrease in February of this year, the only monthly decrease since September of last year.

Figure 7

Source: National Association of Realtors

The Mortgage Bankers Association of America (MBA) released their mortgage applications survey yesterday for last week's data. Their composite index rose 0.5% over the previous week with the greatest contribution coming from the refinance (REFI) index, which was up 1.8% while the purchase index slipped 0.6%.

Figure 8

Source: Dismal Scientist
Data: Mortgage Bankers Association of America

The increase in the REFI index is not surprising as more adjustable rate mortgages (ARM) are resetting with more to reset over the next year. The fixed rate mortgage (FRM) is 18 basis points higher than four weeks ago and 30 basis points higher than a year ago. The ARM is 7 basis points higher than four weeks ago and 60 basis points higher than a year ago. The resetting of ARMs at higher interest rates will cut into homeowners' discretionary spending through rising interest payments.

Figure 9. U.S. Treasury Yield Curve (10/25/06 & 10/25/05)

Source: Bloomberg

Further evidence that the housing downturn has more room to go came on Tuesday as Countrywide, the largest U.S. mortgage lender, third-quarter profit rose only 2%, which was less than analysts expected. Its pretax loan servicing profit fell 52 percent to $123 million, despite a 19 percent growth in its servicing portfolio to $1.24 trillion. To offset its negative performance and slowing industry, the company announced its plans to lay off more than 2,500 employees, roughly 4% of its workforce, to support the bottom line and buy back $2.5 billion of stock to support the share price and EPS.

Countrywide isn't the only company reporting below analyst earnings and job cuts. Wells Fargo & Co. and Washington Mutual Inc., its biggest rival, also reported softening mortgage demand. Several thousand jobs were cut by Washington Mutual and subprime lender Ameriquest Mortgage Co.

Today the new homes sales report was released by the Census Bureau which showed the second monthly increase in a row for new home sales, with September sales rising 5.3% from August levels. Another positive aspect from the report was that the months' supply on the market declined for the second straight month from the July high of 7.2 to 6.4 for September. On the bearish side, the YOY % change for the median sales price of a new home fell 9.7% in September, the fastest price decline in nearly 36 years as builders lower prices to clear their inventories. This came after yesterday's report on existing homes which showed the median prices for single-family homes fell 2.5% from last year's levels, the largest drop on record.

Although there are some encouraging aspects of the new homes sales report, it is again far too early to be able to call a bottom as housing downturns are usually multi-year affairs as evidenced by the figure of YOY % change in new single-family houses sold below. What can also be seen from the chart below is that there are small countertrends in the YOY rate of change along the corrective trend from a cyclical high. The recent two month improvement in new home sales is probably just that, a small countertrend improvement along the corrective trend from the recent housing cycle peak. For example, although September sales were 5.3% above August sales, they were 14.2% below September 2005 sales.

Figure 10

Source: Dismal Scientist, Data: Census Bureau

Housing wasn't the only big news so far this week as the Energy Information Agency (EIA) released their weekly petroleum report yesterday, sending oil up more than 3% (West Texas Intermediate Crude) to over $60 a barrel, before settling at $61.40. Crude oil inventories fell sharply by 3.3 million barrels last week against expectations of a 2.6 million barrel build. The biggest culprit attributing to the drop was a sharp drop in imports. Distillate inventories also declined, falling by 1.4 million barrels above the 1.1 million barrel draw forecasted. Gasoline stocks showed the biggest decline against expectations, plummeting 2.8 million barrels which was far above the 600,000 barrel drop expected.

The headline of the EIA press release yesterday was, "A Possible Turning Point," and points out that last week may have been a possible bottom in oil. Commentary and insights from the release are provided below.

Often, what comes to be seen as a turning point can only be identified after the fact. Will the St. Louis Cardinals' victory in Game 3 of the World Series be seen ultimately as a key turning point? In retrospect, will last week's OPEC's announcement of 1.2-million-barrel-per-day cut in production effective November 1 be seen as a turning point for oil markets? If oil prices do start heading higher again, the week ending October 20 may be seen as the key week, with inventories heading significantly lower, thus highlighting a tightening of the supply and demand balance in the United States.

U.S. petroleum supply data for the week ending October 20, released earlier today, showed total U.S. petroleum inventories falling by more than 11 million barrels, the largest decline since the week ending September 2, 2005, when stocks fell sharply following Hurricane Katrina. Over the past 95 weeks, since the beginning of 2005, this is only the sixth time that inventories of crude oil, gasoline, and distillate fuel all declined in the same week, and the first time since the week ending August 4!

Looking at the supply and demand factors for petroleum products supports the bullish movement in prices over the past week. The following charts of the supply and demand balance are all taken from the EIA petroleum release, starting with crude oil, gasoline, and then distillates.

Figures 11-14

Source: EIA, Weekly Petroleum Status

Figures 11-14 shows supply falling in terms of imports with U.S. production relatively flat. Looking at U.S. production for this year shows that production has been below last year's levels by roughly 500,000 barrels per day prior to last year's drop off in August due to the hurricanes. This implies that the U.S. oil industry has not recovered from the hurricanes from last year as seen by lower production levels. On the demand side, crude usage by refineries is falling sharply as refinery utilization has fallen from 93.42% during the week of 09/15/06 to 86.22% last week due to refinery maintenance. Crude inventories are still above the average range, though the recent decline may be the start of a downward trend as OPEC's production cuts go in affect next week. The following charts are for gasoline with commentary provided below.

Figures 15-18

Source: EIA, Weekly Petroleum Status

The first two charts show the supply side for gasoline, with U.S. production declining coinciding with a decline in refinery utilization. Additionally, U.S. imports of gasoline have fallen dramatically and have been declining since August, falling well below last year's levels which saw a surge in imports after the Gulf Coast was shut down. On the demand side, after tracking last year's levels closely, the last chart shows that U.S. demand for gasoline has been rising over the past few weeks and is actually above last year's levels by the largest margin so far this year. With falling supply and rising demand it’s no wonder the gasoline inventories have fallen sharply and are nearly within the upper average range after being above the range for several weeks. Distillate fundamentals are discussed next.

Figures 19-22

Source: EIA, Weekly Petroleum Status

The picture for distillates (heating oil, diesel fuels) is similar to gasoline for the same reasons. Supply has been falling with declining U.S. production coupled with declining imports. Like gasoline demand, distillate demand has risen sharply to the widest margin above last year's demand as temperatures have been cooler than average in the Eastern part of the nation. With declining supply and rising demand, distillate stocks have fallen recently, though they are still above the average range.

The common theme with all three petroleum products is falling supply against the backdrop of rising demand. With refineries undergoing maintenance and utilization below 90% along with OPEC cuts in crude production, a bottom may very well have taken place in the petroleum industry. Technicals appear to be supporting the fundamentals as Frank Barbera made the call for a bottom in crude oil back on October 12th in his editorial, "The Bottom For Crude Oil" Frank has been spot on with his calls for crude oil when he called a top in crude in July with the price action of oil following his hypothetical movements, and he provided the following commentary of his summary:

The odds of anything less then $55 Crude Oil seem very far removed -- recession or no recession. In my view, the outlook for a solid recovery in Energy prices for this point forward seems like a very high probability event. For Crude Oil any move back above $60 will confirm that a major bottom has been seen.

Today's Market

The big economic report released today was the durable goods order for September, which showed manufacturing rebounded in September, with durable goods orders rising 7.8% after a slight decline (0.1%) seen in August, and above expectations for a 2.2% increase. The biggest contributing factor to the months increase was a surge of 28% in transportation equipment orders, the largest increase since June of 2000. Non-defense new orders for capital goods rose $15.2 billion to $84.5 billion, up 21.9%, while defense new orders for capital goods was up $4.1 billion to $13.7 billion, up 41.9%.

Durable Goods Orders
Source: Econoday, Data: Census Bureau

In other economic news, weekly jobless claims rose 8,000 to 308,000 last week from the prior week's levels. A floor of 300,000 claims seems to be developing as jobless claims have not materially been below that level since the beginning of the year and may rise in the future with housing-related job losses. Economist Zoltan Pozsar from Moody's Economy.com provides the following commentary on today's jobless claims:

Housing-related job losses have been contained up to this point and a reduction in work-in-progress and completed new home inventories will set into motion an increase in layoffs in the construction sector before too long. Moreover, the second leg of the housing downturn, which will be characterized by more stagnant sales activity and greater pressure on consumption from less wealth creation and higher saving, is only now getting under way; and because the effect on the labor market occurs with a considerable lag, this will be a story for 2007. As such, the combination should lead initial claims higher, if only gradually, along with the unemployment rate in the first half of next year.

Source: Dismal Scientist, Data: Employment Training Administration

The weekly natural gas storage report was released today which showed a 19 billion cubic feet (bcf) build in natural gas inventories, below expectations for a 29 bcf build. Inventories have fallen from a high of nearly 14% above the five-year range at the end of last month to 10% currently, with the East showing the smallest difference from the 5-year average, above by 7%. The slower build in natural gas inventories has resulted from colder weather which has lead to an increase in Henry Hub spot price above $7 for the first time since August and bottoming near $4 late last month.

The new home sales report that was released this morning put early pressure on the markets sparking fears that the price decline will drastically rein in consumer spending this holiday season, but company 3rd quarter releases throughout the day helped propel the markets upward after their morning session lows. Aetna rose 10% on the day after beating expectations, Comcast's 3rd Q profit soared 46% YOY, Exxon Mobil easily beat expectations posting a record 3rd Q, and Cabot Oil & Gas 3rd Q results came in $0.12 above the consensus.

Advancing issues represented 65% and 64% for the NYSE and NASDAQ respectively, with up volume representing 63% and 70% of total volume on the NYSE and NASDAQ.

All of the broad market indices were up, with the DJIA posting a gain of 28.98 points to close at yet another record high of 12163.66. The S&P 500 was up 6.86 points to close at 1389.08, and the NASDAQ was also up, climbing 22.51 points to close at 2379.10. The 10-year Treasury note yield fell to 4.721%, and the dollar index posted a loss on the day, falling 0.48 points to close at 85.90.

Overseas markets were mostly up with Mexico's Bolsa Index and London's FTSE 100 Index posting losses, down 0.16% and 0.48% respectively. The largest gains on the day were posted by Japan's Nikkei 225 and Germany's DAX Index, up 0.67% and 0.31%.

Seven of the ten S&P 500 sectors were up on the day, with the largest gains coming from consumer discretionary and telecommunications, up 1.35% and 1.19%. The only declines came from utilities, energy, and industrials, posting losses of 0.34%, 0.03%, and 0.01% respectively.

Have a pleasant weekend,

Chris Puplava

Contact Information

Christopher M. Puplava
PFS Group
PO Box 503147
San Diego, CA 92150-3147
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