Lex is a premium daily commentary service from the Financial Times. It helps readers make better investment decisions by highlighting key emerging risks and opportunities.
The difference between investing in a home and in shares is that, while both assets tend to appreciate, you don't have to pay to have your portfolio repainted every few years. A clever investor can even draw wealth from a house's depreciation – and the need to build new ones – by owning shares in U.S. home improvement stores. Second-quarter results at Lowe's Cos. Inc., reported on Wednesday, included a 10-per-cent sales increase. The resulting bump in the shares left them up 130 per cent in two years. This follows a similarly muscular showing by Home Depot Inc.
The rally has left both companies trading at 20 times expected earnings for this year – close to 10-year highs. So it is time to assess whether the resurgence in spending on homes in the U.S. has room to run. There is not much data on remodelling and repair spending, but to the degree that home building and buying are a proxy (and another source of demand for Lowe's and Home Depot), there is information to spare – most of it encouraging. Census data show that housing construction starts are still below their historical norm and the pace of single family home sales, while up from a few years ago, also remains low. This is confirmed by latest data from U.S. estate agents. Prices are still rising at double-digit rates. Home inventories look to have bottomed early this year but remain low.
One indicator is going directly in the wrong direction, though: interest rates, which have been jumping during the past six months. This has hit homebuilders' shares, despite the fact that the relationship between rates and construction is unclear. Toll Brothers Inc., which also reported strong earnings on Wednesday, is off 15 per cent since May. The economic plumbing that connects rates and home improvement spending is complex and indirect. But further sharp rate rises could make anything perceived as housing-related spring a nasty leak.