Summary
- NAIL ETF has gone down 85% in price, as the housing sector slowed due to doubling of mortgage rates.
- In this article, let us take a look at the housing market before investing in this ETF due to the risks involved with leveraged sector ETF.
- Also covered are the bearish and bullish factors and their impact on the housing sector in the coming months.
Background
The Direxion Daily Homebuilders & Supplies Bull 3x Shares ETF ( NAIL ) seeks (before fees and expenses) to triple the daily performance of the Dow Jones US Select Home Construction Index ( DJSHMBT ). This fund should not be expected to provide three times the return on the benchmark's cumulative return for more than a day.
Benchmark
The Dow Jones U.S. Select Home Construction Index measures U.S. companies in the home construction sector that provide a wide range of products and services related to homebuilding, including home construction, manufacturers, sellers, and suppliers of building materials, furnishings, and fixtures, as well as home improvement retailers. The index may include large-, mid-, or small-capitalization companies.
Holdings
The U.S. Real Estate Market
Twelve years ago, the real estate market trends bottomed out during the Great Recession. The Federal Reserve dropped interest rates to near zero and was buying mortgage-backed securities from April 2020, which provided a big boost to the housing market in the U.S. Buyers were forced to compete with several offers on every property, drastically tilting the scales in favor of sellers. The monthly supply of new houses dropped to a record low in late 2020 and early 2021.
In order to combat high inflation and slow the economy down, the Fed has raised rates at an aggressive pace and started quantitative tightening. This is responsible for the sharp increase in mortgage as shown in the chart below.
Currently, mortgage rates are just below 7 percent and up from 3 percent a year ago. Mortgage applications have declined in the wake of higher mortgage rates. The chart below shows the inverse relationship between mortgage rates and mortgage application.
Mortgage Application and Mortgage Rates (Mortgage Bankers Association)
The median home price in the U.S. real estate market has enjoyed historical appreciation rates for the better part of a decade. Below is the chart of house prices indexed to Consumer Price Index. The chart shows that prices are at higher levels than seen at the peak in 2008, though they have been pulling back for the last 6 months, with some cities declining by double digits.
US House Prices Inflation Adjusted to 1984 (St. Louis Federal Reserve)
The consumer remains in good financial health, as their real median household income has gone up steadily over the past few decades. Rising household income does provide support.
Primary homeownership levels have dropped after the Great Financial Crisis, though they have been rising steadily over the past few years. However, the primary homeownership level is likely to support demand if mortgage rates start to come down and unemployment does not go much higher.
Total debt service which includes house payment or rent, car payment, and other expenses as a percentage of disposable income remains at much lower levels than at any time in the past forty years. This will be supportive to the housing market along with demographics in the coming months.
Housing starts have lagged the number of new homes needed and were partly responsible for the demand surge in 2020 and 2021. As the Federal Reserve started their steep hiking cycle, the number of new homes being built has fallen off. This will support demand for new homes in the coming months.
Active listings of houses for sale have been steadily dropping for the past few years due to lack of inventory.
Active Listing of Houses for Sale (St. Louis Federal Reserve)
The unemployment rate in the U.S. remains historically low, however, Federal Reserve tightening will have an impact. As the economy slows down, the unemployment rates are likely to go higher.
Rental vacancy rates remain very low, and they compare to the lowest levels seen in the last fifty years. Rental vacancy trended high for years and peaked in 2010. Since then, the number of new homes built are far less than what is needed in the U.S. This has led to a very low vacancy rate. Without a doubt, this will provide a lot of support to the housing market in the years to come once mortgage rates start to decline.
Housing Sector Forecast
Using the data above and demographic statistics, we will try to attempt to forecast demand for the housing sector for the coming months.
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House Prices: The median home value in the United States has risen for ten consecutive years. The latest drop in activity due to higher mortgage rates is expected to temper appreciation. While homes are expected to increase about 1.4% because of low inventory levels, less activity will take some power away from sellers in 2023.
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Inventory Shortage: The U.S. housing market currently has a million homes for sale, which is below "healthy" levels. Builders got back to work in 2021, but the inventory of new houses will continue to be hard to come by since builders have pulled back on new house construction.
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Home Buyers: Millennial buyers (ages 21 to 39) make up the majority of all home purchases. Moving forward, as "younger" millennials grow into their careers, it is safe to assume the share of buyers will lean even more heavily in favor of millennials.
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Interest Rates: Average 30-year fixed-rate mortgage rates jumped to 7%. When mortgage rates start to come down, we are likely to see increased activity in the housing sector.
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Unemployment: Demand for workers has remained strong for the past two years but has started to show signs of slowing demand. The housing shortage will keep demand for houses high until there is a balance between new houses being built and demand for houses.
Demographic
Demographic favors a steady increase in demand for houses, as the 25- to 30-year-old cohort and 30- to 34-year-old cohort look for houses.
Unemployment Forecast
Unemployment is expected to rise as the Federal Reserve has increased the overnight Fed Funds Rate at the fastest level seen in decades. The Conference Board projects unemployment rates to go up to 4.4% by the middle of next year.
Technical Analysis
NAIL ETF's weekly chart telegraphs the fall in price since early 2022 though it is attempting to bounce. NAIL ETF fell 85% from a peak level around $130.
The daily chart of NAIL ETF shows that in the short term, there is a visible bounce. NAIL needs to move up, making higher highs and higher lows if some sort of an uptrend is to resume. Levels to watch are 25 for a failure of the uptrend. If NAIL closes above 35 and then goes on to breakout above 41, then a new uptrend is likely to have started.
Summary
NAIL ETF can be part of an aggressive growth strategy for the active investors. The housing sector will have challenges for months until mortgage rates start to trend lower. It doesn't matter if one uses fundamental analysis or technical analysis, sector-specific leveraged ETF's should be very carefully bought. My recommendation is to hold off on buying the NAIL ETF. There are favorable demographic factors, low rental vacancy rates, and lack of housing inventory, but higher mortgage rates, a slowing economy, and higher unemployment are going to be headwinds for the next few months. I would also like to invite discussion from those that have different viewpoints on the housing sector.
For further details see:
NAIL: Timing This ETF Is Key