The Xchange Blog

Real Estate: Buy, Rent or Sell?

High demand, strong borrowing conditions and a host of promising economic signals made 2018 seem like a ripe ecosystem for real estate investments.

Homebuilders like Lennar Corporation and D.R. Horton Inc. entered the year pushing new all-time highs that were 30 to 40 percent above their average range in 2017. At the same time, REITs like Prologis Inc and Equinix Inc. also showed strong momentum, though some in the sector struggled early in the year.

Now, as we approach the back end of 2018, property-based equity is flagging under the weight of high materials’ costs, and rising interest rates, along with the threat of high housing costs, as well as inflation driving down consumer and business buying power. Just take a look at the chart below for the Direxion Daily MSCI Real Estate Bull and Bear 3X Shares ETF (DRN, DRV) and Daily Home Builders & Supplies Bull 3X Shares ETF (NAIL)

DRN & DRV vs. MSCI REIT Index

Data Range: 9/24/2018 – 10/23/2018. Source: Bloomberg. The performance data quoted represents past performance. Past performance does not guarantee future results. The investment return and principal value of an investment will fluctuate. An investor’s shares, when redeemed, may be worth more or less than their original cost; current performance may be lower or higher than the performance quoted. For standardized performance and the most recent month-end performance, click here.

 

NAIL vs. Dow Jones Home Construction Index

Data Range: 9/24/2018 – 10/23/2018. Source: Bloomberg. The performance data quoted represents past performance. Past performance does not guarantee future results. The investment return and principal value of an investment will fluctuate. An investor’s shares, when redeemed, may be worth more or less than their original cost; current performance may be lower or higher than the performance quoted. For standardized performance and the most recent month-end performance, click here.

 

This trend isn’t surprising, with one more interest rate hike expected before the year is out and persistent headwinds for builders in the form of tariffs on basic materials, the market is rotating to more stable options.

However, despite their shared hardships now, the possible fate of homebuilders and REITs might actually be pretty distinct. Let’s look at the next four months might hold for each to understand whether the real estate’s resurgence is really as dead as it might first seem.

Homebuilders

In the case of homebuilders, the headwinds certainly outnumber the things the industry might have going for it. Tariffs against China and Canada on basic materials like steel and wood have already been a drag on an inflated housing market. While climbing interest rates don’t help, the larger factor limiting new home starts is depressed buying power among consumers.

Inflation, tariffs and lagging wages play a role, but it’s really supply that has the housing market down in Q4. New lots are scarce and a tight labor market has meant new construction hires are hard to come by. These trends bear out in the most recent housing data for August, which shows that, despite an uptick in new home starts, building permits are down, forecasting the likelihood of fewer new home starts in the coming months.

However, these factors alone don’t spell the end for homebuilders. Despite an uptick in inventory, existing home prices are still high. One key element that could buoy the industry is high consumer confidence, which might prompt buyers to spend extra for a new home. Another short-term influence is the “broken windows fallacy,” which — because of the destruction brought on by Hurricane Florence — might boost the bottom line for some of these companies involved in the repair effort come earnings season.

Overall, larger economic forces are standing in the way of long-term strength in the homebuilders. The best indication for a turnaround will likely first be seen in a resolution to the trade wars or an actual gain in median wages. However, the threat of inflation looms large over the industry.

REITs

Despite the overall stronger year REITs have had when compared to homebuilders, they’ve also felt the shock of recent headlines. Things like the September rate hike’s potential effect on property investments and increased borrowing rates as well as fluctuations in retail performance impacting retail REITs have put some downward pressure throughout the industry.

However, these issues might only be the market reacting for the sake of reacting, as the fundamental picture on REITs is little changed from where it was six months ago. For one, the impact of interest rate increases is largely overblown given the countervailing factors impacting the asset value of a REIT-owned property. Second, the aforementioned consumer confidence levels in addition to broader economic indicators suggest the near-term outlook on retail is solid.

While the near-term potential for REITs remains better than the street might suspect, obstacles from a tightening economic picture could spell trouble for real estate holdings. For one, rising oil prices and already high premiums on goods being taxed at the border could prove more of a drag on overhead spending for companies who might otherwise looking to expand. These might also take a hit from the tightening economic picture both here and around the world, if projections for GDP begin to falter.

Related Leveraged ETFs

 


Each leveraged ETF seeks investment results that are 300% of the return of its benchmark index for a single day. Each Fund should not be expected to provide returns which are three times the return of benchmark’s cumulative return for periods greater than a day. Investing in a Direxion Shares ETF may be more volatile than investing in broadly diversified funds. The use of leverage by a Fund increases the risk to the Fund. The Direxion Shares ETFs are not suitable for all investors and should be utilized only by sophisticated investors who understand leverage risk, consequences of seeking daily leveraged investment results and intend to actively monitor and manage their investment.
 
DRN/DRV Risks – An investment in each Fund involves risk, including the possible loss of principal. Each Fund is non-diversified and includes risks associated with the Funds’ concentrating their investments in a particular industry, sector, or geographic region which can result in increased volatility. The use of derivatives such as futures contracts and swaps are subject to market risks that may cause their price to fluctuate over time. Each Fund does not attempt to, and should not be expected to, provide returns which are three times the performance of their underlying index for periods other than a single day. Risks of each Fund include Effects of Compounding and Market Volatility Risk, Leverage Risk, Counterparty Risk, Intra-Day Investment Risk, risks specific to investment in the securities of the Real Estate Sector, for the Direxion Daily MSCI Real Estate Bull 3X Shares, Daily Index Correlation/Tracking Risk and Other Investment Companies (including ETFs) Risk, and for the Direxion Daily MSCI Real Estate Bear 3X Shares, Daily Inverse Index Correlation/Tracking Risk, and risks related to Shorting and Cash Transactions. Please see the summary and full prospectuses for a more complete description of these and other risks of each Fund.
 
MSCI US REIT Index (RMS G) – A free float-adjusted market capitalization weighted index that is comprised of equity real estate investment trusts (“REITs”) that are included in the MSCI US Investable Market 2500 Index, with the exception of specialty equity REITs that do not generate a majority of their revenue and income from real estate rental and leasing operations. The Index represents approximately 99% of the U.S. REIT universe. One cannot directly invest in an index.
 
NAIL Risks –  An investment in the Fund involves risk, including the possible loss of principal. The Fund is non-diversified and include risks associated with the Fund concentrating its investments in a particular industry, sector, or geography which can increase volatility. The use of derivatives such as futures contracts and swaps are subject to market risks that may cause its price to fluctuate over time. The Fund does not attempt to, and should not be expected to, provide returns which are three times the performance of its underlying index for periods other than a single day. Risks of the Fund include Effects of Compounding and Market Volatility Risk, Leverage Risk, Counterparty Risk, Intra-Day Investment Risk, risks specific to investment in the securities of the Homebuilding Industry, Daily Index Correlation/Tracking Risk, and Other Investment Companies (including ETFs) Risk. Please see the summary and full prospectuses for a more complete description of these and other risks of the Fund.
 
Dow Jones U.S. Select Home Construction Index (DJSHMBT) – Measures U.S companies in the home construction sector that provide a wide range of products and services related to homebuilding, including home construction and producers, sellers and suppliers of building materials, furnishings and fixtures and also home improvement retailers. The Index may include large-, mid- or small-capitalization companies. One cannot directly invest in an Index.