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August 5, 2005

Bear in the Backyard

What could be more fun for a housing bear than to watch Toll Brothers report blockbuster earnings and then get hit for a 7% decline? Perhaps listening to Toll CEO, Robert Toll, try to spin a demand slowdown as good news:

"With buyer appetite so healthy, approximately one-third of our communities now have backlogs stretching out twelve months. Therefore, in a number of communities, we've chosen to hold off taking new home sale contracts rather than lock in sales prices today for deliveries more than a year away. Instead of selling out communities too quickly, we've chosen to ration our supply to maximize profit."

In other words, demand wasn't as high expected, so we're going to pretend to be holding back in the shareholders' best interests! Folks, companies like Toll Brothers don't (or least shouldn't) refuse sales that are on the table. Otherwise, they become the speculator, not the supplier.

Traders saw through the sham, and with the 10-year note falling about a half point, the homeys got slammed. Although the stocks finished well off their lows, we still saw some decent carnage: Centex down 3.7%, Toll down 7.2%, KB Homes down 5.6%, Hovnanian off 5.8%, and Lennar off 4.5%.

Speaking of the 10-year note, Martin Goldberg of Financial Sense constructed an excellent view of the history of the 10-year Treasury which I encourage all readers to peruse. Goldberg's presentation shows how closely the current environment for interest rates resembles the early 1980s, only upside down. Not only are the reversal patterns similar in the charts, but public sentiment is exactly inverse what it was in the early 1980s when people thought rates would be high forever. It is important to note, as Goldberg points out, that secular trends don't change quickly. It may be months or years into a bond market decline before it is apparent that things ain't the same as before.

Furthermore, we face serious dangers with rising long rates because of the threat of bursting not only the housing bubble, but consumer credit and stock market bubbles, as well. What a predicament Sir Greenspan has lead us into! No doubt as soon as signs emerge that the consumer is exhausted, The Fed will start slashing rates again. Sounds like a golden investment opportunity to me.

Disclosure: Short CTX; Long TOL Puts


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