Home prices continue to edge higher with a 12.8% jump in August, according to the S&P/Case-Shiller 20-City Home Price Index. While this seems positive, you also have to wonder if the housing market is headed for a bubble down the road as mortgage rates rise—and they will.

The chart of the S&P/Case-Shiller 20-City Home Price Index below shows the currency recovery in home prices. The index is still far below the peak in 2006 and 2007, prior to the subprime blow-up. These were unrealistic levels. We saw downward moves in 2009 and 2012, but it has been clear sailing. Yet the problem is that much of the buying in the housing market was driven by institutional buying. Once this begins to fade as home prices rise, we could see a relapse in the housing market.

Chart courtesy of www.StockCharts.com

We saw a 5.6% decline in pending home sales in September. This metric is not considered as critical as the housing starts and building permits readings, but in my view, it’s a good indicator. In August, pending home sales slid 1.6%. We may be seeing a trend of lower demand for homes, which suggests there could be some issues on the horizon if pending home sales continue to be negative.

Existing home sales were also flat at 5.29 million units in September, down from 5.39 million units in August. Less people are buying homes, and this cannot be good for the homebuilder stocks.

What makes the situation in the housing market worse is that we are failing to see strong job creation. Without confidence and jobs, there will continue to be a tendency among consumers to not want to commit to a major purchase, such as a house.

I would be avoiding the homebuilder stocks at this time. The S&P Homebuilders Index is looking vulnerable, as shown in the chart below, based on my technical analysis.

Chart courtesy of www.StockCharts.com

What I continue to like is the home building supplies companies. At the top is The Home Depot, Inc. (NYSE/HD), which is the “Best of Breed” in this sector in my opinion.

In the small-cap area, take a look at the suppliers to the housing market. Beacon Roofing Supply, Inc. (NASDAQ/BECN) is a stock that you should keep an eye on. The company supplies builders and roofing companies with roofing supplies.

This article How to Profit from a Potential Housing Market Downdraft was originally published at Investment Contrarians

By George Leong, BA, B. Comm.
www.investmentcontrarians.com

Investment Contrarians is our daily financial e-letter dedicated to helping investors make money by going against the “herd mentality.”

George Leong, B. Comm. is a Senior Editor at Lombardi Financial, and has been involved in analyzing the stock markets for two decades where he employs both fundamental and technical analysis. His overall market timing and trading knowledge is extensive in the areas of small-cap research and option trading. George is the editor of several of Lombardi’s popular financial newsletters, including The China Letter, Special Situations, and Obscene Profits, among others. He has written technical and fundamental columns for numerous stock market news web sites, and he is the author of Quick Wealth Options Strategy and Mastering 7 Proven Options Strategies. Prior to starting with Lombardi Financial, George was employed as a financial analyst with Globe Information Services. See George Leong Article Archives

Copyright © 2013 Investment Contrarians- All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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