Construction indicators are important because this sector is a major source of employment. Trends in housing starts and building permits reflect the strength of the economy and provide an indication of future economic trends. Housing starts and business structures rise when interest rates are stable or declining and the economy is improving.
However, as soon as uncertainties arise and interest rates begin to increase, consumers and investors immediately curtail their purchase of houses and investment in new constructions. Trends in the housing sector are closely related to trends in interest rates. An increase in interest rates raises the cost of borrowing, and therefore, considerably raises the cost of buying either a house or a property. For this reason, an increase of interest rates is followed by slower growth in the housing sector and eventually in an outright decline.
The odds favor higher interest rates as long as the housing sector is strong and people borrow to buy houses. Interest rates will decline only after a prolonged decline in the housing sector, a sign that investors have decided to wait for much lower interest rates before beginning new investments in the construction business. Following a decline in interest rates, there is a sense that business conditions will be improving with the construction sector being one of the first ones to revive. When interest rates decline, which is typically preceded by a prolonged decline in the housing sector, the low cost of money again encourages investors and business to borrow to invest in housing and construction projects.
The housing sector revives only after interest rates have passed their peak and are on their way down. The housing sector will grow rapidly as long as interest rates are declining or are stable. The first signs that the housing sector is likely to weaken happen when interest rates bottom and eventually begin to rise due to the strong economic environment. Information on construction activity is available from the Census Bureau.
Other important data in this sector are the level of new home sales and existing home sales. They provide information on the consumers’ willingness to spend. These reports also indicate the average price paid for houses and provide an indication of the level of inflation existing in the real estate business. Home sales are closely related to the behavior of housing starts. These data are available from the National Association of Realtors.
A strong construction sector is associated with a rapid growth in housing starts, in building permits, and in the level of new home sales and in existing home sales. The period of strong construction is typically associated with declining or stable interest rates. The construction sector weakens following an increase in interest rates and will remain weak as long as interest rates are on a rising trend. The main reason why the construction sector is so sensitive to interest rate strengths is because borrowing costs are one of the main determinants in purchasing and investing in such sector.
(From my book Profiting in Bull or Bear Markets. Published also in Mandarin and on sale in China).
George Dagnino, PhD Editor,
The Peter Dag Portfolio.
Since 1977
2009 Market Timer of the Year by Timer Digest
Portfolio manager
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