Housing Market in Trouble?

It seems like there may be a bit of a perception problem in housing.  While the most recent housing data definitively shows housing prices on the rise across most of the country, mainly due to all cash deals, there is conflicting data underneath the surface.  According to recent figures, mortgage interest rates are on the rise across all durations while at the same time lumber futures continue to decline after peaking in March. While this may be just a temporary slowdown based on lower demand from China, it will be important to monitor developments in the coming months.  See charts below.

Sentiment Reaching Extremes

As the US indices continue to move higher without missing a beat, the sentiment indicators over the past month are starting to show extreme readings.  In the past few years these readings have been associated with moderate to meaningful pullbacks in the markets.  Courtesy of SentimenTrader on the chart below you can see the spread between the institutional investors and retail investors has widened to levels not seen since the fall of 2012, right before the market corrected.  The higher the number the more confident that group is the market will be higher in the coming weeks.  While the spread can continue to widen if the market continues to climb, the risk to reward ratio is not looking very attractive.  Remember, we always want to follow the smart money (green line) and right now they are not particularly confident.   

S&P 500 Earnings Estimates Decrease

Back in February we noted that while the US markets continue to move higher, operating earnings for S&P 500 companies for the year ending 12/31/2013 continue to move lower.  We called this an interesting divergence.  At that time, the most recent projection for 2013 composite earnings was roughly $111.50.

Flash forward a few months and the final numbers for 2012 have been posted ($96.82) and the estimates for 2013, surprisingly continue to decrease.  As of May 1st, the S&P 500 operating earnings estimates for 2013 have decreased to $110.52.  While the decrease doesn't seem that significant, it's the trend that is worrisome.  The earnings estimates have been declining each month this year.

If we assume all the companies in the S&P 500 will post earnings of $110.52 for 2013 (current estimate) and we know the final results for 2012 were $96,82, the expectation is for earnings growth of roughly 14% for 2013.  We would consider this solid growth, especially in the current economic environment.  Since the markets tend to follow earnings we could expect the markets to increase roughly 14% +/- for the year assuming the estimates become reality.

Well, the US market, as measure by the S&P 500, is already up 12% so far this year.  If the earnings estimates stop declining and begin to move higher, we can rationally expect the markets to move higher along with earnings.  But if the earnings estimates continue to decline, we would expect this reality of slowing earnings growth to eventually catch up to the markets.  Right now perception is reality and the perception is earnings estimates will increase in the second half of the year.  While this may definitely prove to be correct, the current facts show the opposite.  If this divergence doesn't resolve itself for the positive in the near term, we should expect volatility in the market to increase.  Earnings estimates will be important to watch in the weeks/months ahead.