ETFs providing exposure to US-listed homebuilder equities are in flux as lower interest rates support the sector while the ongoing US-China trade war provides headwinds.
The US homebuilding sector is in flux.
The iShares US Home Construction ETF (ITB US), the largest ETF to cover this space with more than $1.0 billion in assets under management, gained 7.2% between 23 July and 23 August 2019, placing the fund amongst the best-performing equity ETFs in the US over this period.
The strong performance reflects the impact of lower interest rates – the Federal Reserve cut its policy rate to a range of 2%-2.25% on 31 July – which tends to boost homebuilding activity by reducing financing costs for home buyers.
Interestingly, the iShares fund fared better than its competitors over this period – the $650 million SPDR S&P Homebuilders ETF (XHB US), for example, posted a gain of just 1.4%.
While both funds broadly invest in the same stocks, the divergence in performance can be explained by the different approaches of the ETFs’ underlying indices. Specifically, the Dow Jones US Select Home Construction Index, which underlies the iShares ETF, weights its constituents by market capitalization, while the S&P Homebuilders Select Industry Index, underlying the SPDR fund, employs equal weighting.
While an equally weighted approach serves to better diversify risk across constituents, the strategy underperforms when larger-cap stocks outperform the broader market.
The iShares US Home Construction ETF comes with an expense ratio of 0.42%, while the SPDR S&P Homebuilders ETF is slightly cheaper at 0.35%.
Trade headwinds
The cost to build a new home in the US has climbed higher in 2019 due, in part, to tariffs imposed by the Trump administration on key building materials such as Canadian lumber (20%) and Chinese steel (25%).
Many builders have been forced to pass those cost increases on to customers, often pricing them out of the market.
On Friday 23 August, President Trump announced fresh tariff hikes on effectively all Chinese imports to the US in retaliation to Beijing saying it would impose duties and raise tariffs on US imports into China.
The iShares US Home Construction ETF subsequently dipped 1.3%, as of its closing price on Monday 26 August.
The ongoing trade war between the US and China may also negatively affect homebuilders through another channel. With global growth slowing down, analysts have highlighted the increased risk that escalations in the dispute may lead to a global recession. Homebuilder stocks, which have historically been cyclical in nature, may be more susceptible to bearing the brunt of the downturn.