Tuesday, March 27, 2007

Housing Gets Messy

They say it's never over until somebody goes to jail.

It sure brings back memories to see an FBI logo at the top of a post, but on Tuesday, the Bureau began sniffing around Beazer Homes on a mortgage fraud probe. Meanwhile, weak consumer confidence did what poor home sales couldn't: buyers sat on the bench all day Tuesday and watched stocks slide lower.

If Tuesday had the feel of a buyer's strike, it's because even though the losses were real, the selling was light. Composite volume finished unchanged, and NYSE trade actually fell 5%. There's been no distribution in the past 5 days since the follow-through, which is good news for stocks. How long this spring fever lasts is another thing altogether.

Despite any uncertainty, investors remain in no rush to dump the best-of-breed. On Tuesday, the IBD100 did better than the broader market and slid just 0.5%, even though only 32 of 100 stocks closed higher. New Highs fell to just 8, and 8 stocks printed distribution days, both of which are typical numbers on a pullback,

The chart below shows that today was also an inside day, not just for the Composite, but for all of the major indexes as well. Throw in low volume, another close above support and MACD ticking positive, and the market continues to have a bullish bias. Considering the shaky economic climate and wobbly geopolitics, it's remarkable things aren't worse. For the record, a close below the 50-day on big volume and things will be worse.

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Reading comments from LEN today about their numbers prompts me to offer some straight talk on the housing mess. Today, the LEN CEO Stuart Miller said that it's "unclear whether there's another shoe to drop" in the US housing market. I assure you there is, and it's a Size 22 EEEE.

Economics 101 teaches us that the house debacle won't be over until one final phase occurs: home prices must tumble. LEN's numbers were so bad in part because they refused to lower prices. Price slashing is essential because it's the only trick left that will stimulate demand. Subprime fiascos and rate cut hopes are a sideshow. Lower prices are the only medicine, but they're like chemo: they make everyone's hair fall out.

The chart below shows that the move to price contraction is a race against time. There are three easy stops: 220, 195 and 175. If sellers don't give up and cut prices by then, anything lower -- like 140 -- will be very hard on everyone. LEN CEO Miller said today that he can't forecast when conditions will improve, but now you can: when all of his hair falls out.

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Paradoxically, just because the housing mess is going to get worse doesn't guarantee the US will fall into a recession. If you'll recall, last Thursday I pointed out that the 2yr/10yr Yield Curve officially became un-inverted. I was certain the mainstream press would be all over this improvement in the weekend rags, but strangely enough I found nothing. Well, as it turns out neither did Mark Hulbert.

On Tuesday, Hulbert wrote a great article on how the professional silence about the repaired Yield Curve shows the difficulty in remaining objective in this business. As of Tuesday, no economist who touted the inverted yield curve has stepped forward to even acknowledge its repair, much less to comment on what any further improvement might mean. For the record, the curve has continued to improve since last week.

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With Bernanke on the Hill on Wednesday, volatility should pick up a bit, and volume will have heightened importance.

Until then, have a great night.



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