Caution: Avoid These Stocks Right Now

You don’t have to look hard to find losers this year…

Tech stocks have gotten wrecked. Bonds are enduring one of their worst crashes in history. And the overall market saw its first correction in years.

One of the biggest losers of 2022 was an incredible winner last year. The sector jumped 49% in 2021. But it’s down 29% so far this year… giving back all those gains.

I’m talking about homebuilders. As the losses in this sector pile up, investors are heading for the exits. That often signals a contrarian opportunity. But in this case, you don’t want to bet against the crowd.

Let me explain…

Homebuilders are notoriously volatile. The crash that has followed last year’s huge gain perfectly illustrates why they’ve earned this reputation.

Investors don’t have the stomach for it, though. They’re jumping out of the sector at record pace…

Specifically, shares outstanding for the iShares U.S. Home Construction Fund (ITB) fell more in a recent three-month stretch than at any other time in the past decade. That tells us investors are pulling money out of the fund…

That’s because exchange-traded funds like ITB can create and liquidate shares based on demand. If investors flood into the fund, ITB can create new shares. But if they sell in droves, the fund will liquidate unnecessary shares.

That makes the total share count a rough barometer for investor interest. And again, folks have been fleeing the fund like crazy this year. Take a look…

ITB’s overall share count is near pandemic lows. But it’s not the level we’re interested in today… It’s how quickly we got here.

You can see that shares outstanding peaked at the start of the year. They then plummeted 30% in just three months. That’s the sharpest three-month fall ITB’s shares outstanding have ever seen.

Simply put, investors haven’t rushed out of homebuilders this quickly at any other time over the past decade. That might seem like we have a contrarian opportunity… But history disagrees.

To check, I looked at every instance where shares outstanding fell by 25% or more within three months. That still only happened 3% of the time.

Those setups didn’t lead to big gains, though. Instead, the losses continued to pile up. Take a look…

Homebuilders are volatile. But they’ve also led to fantastic gains over the past decade – up 14.5% per year over that period.

You’d expect even better returns as investors flood out of the sector. But you’d be wrong… Similar setups have led to 8.5% losses in three months, 11.7% losses in six months, and a 2.3% loss over the following year.

This isn’t normal. We’d usually view this kind of setup as an opportunity. But clearly, it’s not a contrarian buy signal.

Combine that with the recent downtrend, and homebuilders are a sector to pass on right now. History says they’ll bounce back strong at some point. But we’re not there yet.

Good investing,

— Brett Eversole

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Source: Daily Wealth