No Rebound in 2011: The Housing Market Continues to Rot

The year 2010 brought very little improvement in the U.S. housing sector. And that's not likely to change in 2011.

The industry's weaknesses - high unemployment, tight credit, ineffectual government programs, soaring inventories, plunging prices, and so on - are simply too gaping to be resolved within the year.

Even the normally ultra-optimistic National Association of Realtors (NAR) came out of its annual conference in New Orleans in early November with a frown on its face, predicting that, "nationwide, homeowners can expect little, if any, increase in home values in 2011."

The real estate research and online brokerage firm Zillow agreed. It recently issued a report noting that U.S. home values fell by 4.3% in the third quarter of 2010, and chances for improvement over the winter are slim.

"The unceasing declines in home values signal that we're in for a long, bleak winter of continued troubles for the housing market," said Zillow Chief Economist Stan Humphries. "The length and depth of the current housing recession is rivaling the Great Depression's real estate downturn and, with encouraging signs fading, will easily eclipse it in the coming months."

Yet, as I'll explain in a moment, you don't need to avoid the industry altogether; you just need to look behind the scenes to get in on a stellar investment opportunity...

Undermined by Unemployment

Chief among the obstacles to a housing market recovery is the high rate of joblessness. It has driven foreclosure statistics to dizzying heights and, in conjunction with tight credit, kept new buyers out of the market.

The national unemployment rate is currently at 9.5% and will likely remain near double-digits throughout 2011.

In the meantime, credit markets remain tight, making it even more difficult for Americans
to buy new homes or refinance their existing mortgages.

Although mortgage rates remain near all-time lows - a recent average of 4.17% for 30-
year, fixed-rate loans and 3.57% for 15-year mortgages - actually getting one of those loans is
another story. Banks are still trying to absorb losses from the earlier collapse of the mortgage
market and dealing with record foreclosure levels. So they're demanding demonstrated job
security and impeccable credit before granting loans to new homebuyers.

Lower interest rates have dramatically increased refinancing applications, which have
doubled since the start of 2010, according to the Mortgage Bankers Association (MBA).
However, less than half of those applications are being approved.

And government programs have done little, if anything, to help.

Pitiful Programs

The U.S. government set up the Home Affordable Modification Program (HAMP) in March
2009 to help homeowners in trouble restructure their mortgages and avoid foreclosure.
It has been an abject failure.

Roughly three million of the seven million homeowners facing foreclosure at the start of
2009 applied for relief under HAMP, but only 1.4 million were approved for temporary or trial
modifications - and more than half of those have been canceled.

By late October 2010, only 466,708 homeowners had been granted permanent
modifications.

Almost a quarter of the homes on which modification requests were cancelled are now
in foreclosure. And even worse, many homeowners who did get modifications still wound up
in foreclosure because of fees, late charges, and interest accrued while they were waiting for
approvals.

Meanwhile, the one government incentive that effectively cheered up the dour housing
market - the federal homebuyers' tax credit - has fully expired. This program pushed many
people to accelerate their buying decisions by providing up to $8,000 in credits to first-time
homebuyers and $6,500 for repeat purchasers. However, that tax credit expired at the end of
June, and the market has cooled considerably as a result.

Absent the credit, the NAR says existing home sales for 2010 will total just 4.80 million,
a 7% drop from 2009's 5.16 million. Pending home sales also fell 1.8% in September, which
some said virtually guaranteed a slow start in 2011, but a surprising 10% uptick in the index in
October was a welcome sign of stabilization.

For the year as a whole, the NAR sees existing-home sales climbing back to 5.1 million -
but only if new jobs continue to be created. (Note: Several states, including California, also
had smaller homebuyer incentives that have now expired.)

Still, sales and home prices will continue to languish next year, as foreclosures and housing
inventory remain considerably high.

Foreclosures, Inventory, and Prices

Zillow said in its third-quarter 2010 report that 23% of U.S. residential mortgage holders
are now "under water" on their loans - the highest level of the year - and many will likely be
forced into foreclosure in the year ahead.

"The high percentage of homeowners in negative equity... represents a huge number of
people who are not only more vulnerable to foreclosure, but who are essentially trapped in
their current homes and are prevented from selling and buying a new home," said Zillow's
Humphries. "This has profound implications for future demand and will be a millstone around
the neck of the housing market."

NAR Chief Economist Lawrence Yun agreed, saying it will take at least another two years
to clear the foreclosures and short sales currently on the market.

With tight credit keeping many qualified buyers at bay and foreclosures at an all-time high,
the inventory of homes available for sale stood at 4.04 million units in September. That was
a slight drop (1.9%) from August - but still represents a 10.7-month supply at current sales
rates.

The average sales price for a home fell to $171,700 from $178,600 in September, and the
actual number of existing home sales was down 19.1% from year-ago levels.

The number of new-home sales actually rose 6.6%, to an adjusted annual rate of 307,000
units, and the median price for those homes climbed from $220,500 to $223,800. However, the
overall impact of the increase was minimal, since August sales were the third-lowest since the
government began to track new-home numbers in 1963.

"Sales did rise, which is good," Celia Chen, a senior director at Moody's Analytics, told
CNN, "but the pace is still very weak... still close to a record low. It just doesn't seem that
demand is really firming."

That weak pace has also prompted the National Association of Home Builders (NAHB) to
reassess its earlier estimate that 906,000 new homes would be built in 2011, saying in early
October that their forecast "is less certain today."

A Sinking Feeling

It doesn't seem to matter which area of the country you consider - the outlook is dim from
coast to coast.

Zillow's Home Value Index of housing pricings in the 25 largest metropolitan areas
found just six positive numbers in the third quarter of 2010 - in Boston, Pittsburgh, and four
California cities. But even those numbers are misleading, since the Zillow Index factors out
foreclosure sales.

Local realtor surveys by The Boston Globe, The New York Times, The San Diego Union-
Tribune, and The Miami Herald all had trouble finding anyone with optimistic forecasts for
their areas.

Johnathan J. Miller, president of the real estate appraisal firm Miller Samuel, told The
Times that despite small bursts of "happy housing news" in 2010, he expects "the 2011 New
York market will be weaker."

Rick Loughlin, president of Coldwell Banker Residential Brokerage New England, echoed
that sentiment to The Globe.

"We're in the choppy bottom, improving, but at a very slow pace," he said. "The real key
issues are jobs and consumer confidence; when jobs come back, you'll see more of a recovery
in housing."

So, given the state of the housing market, are there any stocks in that sector worth buying?
For most segments of the market - homebuilders, real estate developers, realty brokerages,
and mortgage companies - the answer right now is probably no.

In fact, the only remotely positive recommendation we've seen recently was given to
Barron's by Deutsche Bank AG (NYSE:DB) analyst Nishu Sood, who said the time has come
to "start nibbling" at the housing stocks.

"Five years into the housing market's fall, we believe it is finally near the point from which
it can sustainably recover," said Sood.

Action to Take: The best approach in 2011 is probably to heed the words of Coldwell
Banker's Loughlin and wait until you see some steady improvement in new-job creation. When
it becomes clear that more people are going back to work - and keeping their jobs - start
checking out the major housing stocks, because lots of folks will want new homes to go along
with their new positions.

If you want to get an early jump on the rest of the crowd, look first at the stocks of firms that
supply the homebuilders. Weyerhaeuser Co. (NYSE:WY), recently priced around $17.00, is a good example. It's trading at less than one-third of its April 2010 high of $53.69, even though it
has managed to remain profitable throughout this mess (reporting trailing 12-month earnings of
$1.04 a share) and has had increased year-over-year revenue and earnings for three of the last
four quarters.

[Editor's Note: Housing may not be an attractive investment choice for some time to come. For another way
to profit, consider this: In a small laboratory 35 miles outside of Washington, D.C., scientists have created a
groundbreaking treatment that "teaches" the body's own immune system to destroy cancer. Forbes Science
Business calls it "the wave of the future." Not only could this little company save 7.6 million lives, early investors
could see its $7 share price grow to a potential $140. Full story here.]