See discussions, stats, and author profiles for this publication at: https://www.researchgate.

net/publication/316884538

Home Improvement

Article · July 2015

CITATIONS READS
0 104

1 author:

Emmanuel Dimitrios Hatzakis

Stevens Institute of Technology
91 PUBLICATIONS 297 CITATIONS

SEE PROFILE

All content following this page was uploaded by Emmanuel Dimitrios Hatzakis on 12 May 2017.

The user has requested enhancement of the downloaded file.

C IO REPORTS

The Weekly Letter

Office of the CIO • JULY 14, 2015

 ome Improvement: The U.S. housing market has been resilient in the post-financial crisis era, and recent data has been particularly
H
strong. Amidst the recent market volatility, we see opportunities in industries that should benefit from the cyclical growth in housing
as well as from secular demographic trends, such as home builders, home improvement companies and certain Real Estate Investment
Trusts (REITs).
 arkets in Review: Equities ended a volatile week roughly flat, given positive developments in China and Greece. The S&P 500 was
M
unchanged and the MSCI EAFE Index fell 0.2%. Bonds declined, with the 10-year Treasury yield rising to 2.40% from 2.38% the prior
week. Commodities were down 2.5%, as WTI crude oil fell 7.4% to $52.74 per barrel and gold fell 0.2% to $1,164 per ounce. Eurozone
leaders reached an agreement with Greece on Monday to provide up to €86 billion in new loans, as the country promised to implement
reforms and tough austerity measures. By Wednesday, the Greek parliament must pass new legislation on tax increases and pension plan
savings. While Greece’s exit from the Eurozone is avoided for now, political uncertainties in Greece pose risks to the implementation of
the reforms, although the country’s creditors will consider steps to make its debt sustainable.
 ooking Ahead: Retail sales in the U.S. are expected to be flat for June, while U.S. industrial production in June should reverse its decline
L
in recent months. Industrial production growth in Europe likely picked up in May, after several key economies surprised to the upside.

Home Improvement Exhibit 1: U.S. housing market shows continuing signs of

improvement
Amid growing concerns over Greece, Puerto Rico and China, signs Building Permits Housing Starts Pending Home Sales
of economic improvement in the U.S. continue to sprout – notably 15,000 New Home Sales Existing Home Sales

in the housing sector. Recent data suggests the sector’s growth

Total Number (000s)

is likely to improve steadily in the near term. What’s important is 10,000

that strength in the housing sector has historically had positive
knock-on effects for consumer confidence and, ultimately, 5,000
consumer spending. In a sea of worry about global debt,
stronger U.S. housing data gives us confidence that U.S.
0
economic growth for 2015 remains intact. 1999 2001 2003 2005 2007 2009 2011 2013 2015
Source: Bloomberg, MLWM Investment Management & Guidance. Data as of June 10, 2015.
Housing starts are up
Data for April indicates housing starts were up 20% over last the Federal Reserve’s Household Debt Service Ratio1, and home
year, to over 1 million starts – a level last reached in 2007. The mortgages that are 30 to 60 days delinquent have fallen to levels
growth was complemented by both new and existing home sales last seen in 2000.
(see Exhibit 1), and the strength looks set to continue, at least
The positive trends in consumers’ health and their
in the near term, as permits (needed before building) increased
willingness to commit to rentals and new homes should
in both April and May. This growth is increasingly set against a
translate into higher home prices in 2015, to the tune of
backdrop of a recovering U.S. consumer. More than twelve million
3.7% annual growth on average, according to BofAML
jobs have been created since the trough in 2009, and Americans
Research. The importance of housing growth for the economy is
have been increasing their savings and paying down debt.
hard to overstate. The typical related purchases of durable goods
Notably, debt burdens for the average American have dropped to
(washing machines, air-conditioners, etc.) and their ongoing
record lows (of 9.9% of total disposable income), according to

1
The ratio of total required household debt payments to total disposable income.

Merrill Lynch Wealth Management makes available products and services offered by Merrill Lynch, Pierce, Fenner & Smith Incorporated
(MLPF&S), a registered broker-dealer and member SIPC, and other subsidiaries of Bank of America Corporation (BofA Corp.).
Investment products:
Are Not FDIC Insured Are Not Bank Guaranteed May Lose Value
© 2015 Bank of America Corporation. All rights reserved.
upkeep and maintenance add to economic growth over a long Exhibit 3: Senior housing units under construction
cycle, typically a generation. Even though prices have risen, continues to expand
the “low for longer” interest rate environment should maintain North West Southwest Southeast Pacific
housing affordability and support the housing recovery. 25,000
North East Mountain Mid Atlantic East North Central

Over the medium term, demand for housing stock is 20,000

likely to change 15,000

Beyond 2015, two developing trends will influence demand and 10,000
change the composition of housing in the U.S. These trends fall at 5,000
the opposite ends of the homeowner age spectrum: millennials, 0
who continue to demonstrate a preference for renting as 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
they redefine their social relationships, and baby boomers, Source: Bloomberg , MLWM Investment Management & Guidance.
who are increasingly transitioning into retirement housing
(and even renovating their existing homes for retirement). services means many seniors consider assisted living arrangements
either in their existing (or downsized) homes or, increasingly, in
For millennials, or those born between 1980 and 2000, we see
newly built facilities (see Exhibit 3). Baby boomers are reshaping
the 2008 financial and real estate crisis as having scarred their
the assisted living industry, including through such setups as home-
views on housing and how leverage can affect one’s net worth.
based assisted living. According to BofAML Research strategist
Couple this with large amounts of outstanding student loan debt
Sarbjit Nahal, over 80% of baby boomers prefer to remain at home
($1.2 trillion, according to the New York Federal Reserve) and a
for as long as possible. Spending more years in their homes should
tougher labor market with less job security, and you have a recipe
translate into more years spent on their homes.
for flexibility – via renting an apartment rather than buying a
home. It’s no surprise that apartment construction is up strongly
Portfolio Strategy: With pockets of the housing market
(see Exhibit 2).
primed for new demand across different market segments,
Exhibit 2: Demand from millennials is refocusing we believe Real Estate Investment Trusts (REITs) in
construction selected segments are positioned well. Against a backdrop
of “lower for longer” interest rates and the increasing
Total Multi-Family Units Under Construction (Left)
25-34 Resident Population (Right) health of the U.S. consumer, home building and renovation
(3-year Moving Average, Thousands)

1000 2000
1500 growth should continue at a modest pace in the next
Population Growth

750 several years, creating opportunities for REITs. As discussed

Units (000s)

500
250
0 -1000
1970 1975 1980 1985 1990 1995 2000 2005 2010
Source: Bloomberg, US Census Bureau , MLWM Investment Management & Guidance.
For aging baby boomers, or those born between 1946 and 1964,
the transition is different. The demand for incremental health care
1000
in our recent CIO report Silver is the New Black, we believe
500
healthcare REITs, which own up to 20% of the senior
0
housing and healthcare properties, and apartment REITs are
-500
likely to benefit from the shifting demographic trends.
Industries like home builders that focus on assisted care
and apartments to capture growth, and home improvement
retailers that capture near-term growth in housing and the
rising demand for renovation, should also benefit.

What is a REIT?
A Real Estate Investment Trust (REIT) is a company that holds interests in income-producing real estate such as apartments, office buildings,
warehouses, shopping centers, regional malls, or hotels. REITs can own and operate properties (equity REITs), lend money to property owners
(mortgage REITs), or do both (hybrid REITs). The primary benefit of the REIT structure is that the entity does not pay corporate income taxes
and must distribute 90% of taxable net income to shareholders to maintain this tax status. REITs have benefited from the low interest rate
environment, as their high dividend yields have attracted income-seeking investors. However, they may come under pressure as bond yields
in the U.S. start to rise.

CIO REPORTS • The Weekly Letter 2

Markets in Review
Trailing Economic Releases Equities
Total Return in USD (%)
n U.S. durable goods orders were down 0.5% for April, in line with
Level WTD MTD YTD
expectations and following an upwardly revised 5.1% increase in
DJIA 17,760.4 0.2 0.9 0.9
March. Aircraft orders were a drag on the reading as orders excluding
Nasdaq 4,997.7 -0.2 0.2 6.1
transportation were up 0.5%. Capital goods orders rose 1.0%, and for March
S&P 500 2,076.6 0.0 0.7 2.0
they were revised from a 0.5% decrease to a 1.5% increase.
S&P 400 Mid Cap 1,503.7 -0.1 0.1 4.3
n New home sales in the U.S. came in above expectations, rising to 517,000 Russell 2000 1,252.0 0.3 -0.1 4.6
for April from 484,000 the prior month. This confirms the recent strength MSCI World 1,743.3 -0.1 0.5 3.1
in housing starts and existing home sales, while pending home sales, which MSCI EAFE 1,851.9 0.2 0.5 6.1
were also released last week, showed a similar increase. MSCI Emerging Mkts 932.9 -3.2 -4.0 -1.1
n The euro-area M3 money supply growth was 5.3% year-over-year in April,
exceeding consensus expectations. This broad measure of money supply Fixed Income
has been rising as the European Central Bank has ramped up efforts to Total Return in USD (%)
boost liquidity for the region. We expect this trend to continue as monetary Yield (%) WTD MTD YTD
stimulus helps return the banking system to good health. ML U.S. Broad Market 2.36 -0.1 -0.3 -0.4
U.S. 10-Year Treasury 2.40 -0.2 -0.7 -1.2
S&P 500 Sector Returns (as of last Friday’s market close) ML Muni Master 2.61 0.2 0.0 0.2
ML U.S. Corp Master 3.39 -0.3 -0.5 -1.0
Consumer Discretionary 0.5% ML High Yield 6.75 -0.4 -0.1 2.4
Consumer Staples 2.0%
Energy -1.5% Commodities & Currencies
Financials 0.0%
Healthcare 0.5% Total Return in USD (%)
Industrials -0.2% Level WTD MTD YTD
Information Technology -0.8% Bloomberg Commodity 200.1 -2.5 -3.3 -4.8
Materials -1.6%
Gold Spot 1 1,163.7 -0.4 -0.7 -1.8
Telecom -0.4%
1.7% WTI Crude $/Barrel 1 52.7 -7.4 -11.3 -1.0
Utilities
Prior Prior 2014
-5.0% 0.0% 5.0%
Level Current Week End Month End Year End
Prior Week
EUR/USD 1.12 1.11 1.11 1.21
USD/JPY 122.8 122.8 122.5 119.8
View the Q2 2015 Market Quarterly Source: Bloomberg. 1Spot Price Returns. All data as of last Friday’s close.
Past performance is no guarantee of future results.

Looking Ahead
Retail sales in the U.S. are expected to be flat for June, while U.S. industrial BofA Merrill Lynch Global Research
production in June should reverse its decline in recent months. Industrial Key Year-End Forecasts
production growth in Europe likely picked up in May, after several key economies S&P Outlook 2015 E
surprised to the upside.
S&P 500 Target 2,200
EPS $117.50
Upcoming Economic Releases
Real Gross Domestic
2015 E
n On Tuesday, euro area industrial production is expected to be up 1.8% in May, from Product
0.8% the prior month. Global 3.2%
n On Wednesday, the ISM Manufacturing Index is expected to rise to 53.5 in June from U.S. 2.3%
52.8 the prior month, indicating another month of improving growth in the sector. Euro-Area 1.6%
Respondents in the last survey highlighted concerns over a strong U.S. dollar and low Emerging Markets 4.1%
energy prices, but overall sentiment was positive, as economic growth has resumed its
U.S. Interest Rates 2015 E
upward trend after the weak first quarter.
Fed Funds 0.50-0.75%
n On Thursday, nonfarm payrolls are expected to have been up 220,000 in June after
10-Year T-Note 2.35%
a strong 280,000 rise the prior month. As a result, the unemployment rate will likely
decline to 5.4% from 5.5% in May. Participation in the labor force has been relatively Commodities 2015 E
unchanged over the last few quarters, as a cyclical gain has managed to offset the Gold 1,203
secular downtrend. Wage growth should continue to gradually improve, as average WTI Crude Oil $57
hourly earnings are expected to rise 0.2% after the jump in May. All data as of last Friday’s close.

CIO REPORTS • The Weekly Letter 3

 Office of the CIO

Mary Ann Bartels Karin Kimbrough Christopher J. Wolfe

CIO, Portfolio Solutions, Head of Macro CIO, Portfolio Solutions,
U.S. Wealth Management and Economic Policy PBIG & Institutional

Emmanuel D. Niladri “Neel” Adon John

“Manos” Hatzakis Mukherjee Vanwoerden Veit
Director Managing Director Asst. Vice President Vice President

GWM Investment Management & Guidance (IMG) provides investment solutions, portfolio construction advice and wealth management guidance.
The opinions expressed are those of IMG only and are subject to change. While some of the information included draws upon research published by BofA Merrill Lynch Global Research, this
information is neither reviewed nor approved by BofA ML Research. This information and any discussion should not be construed as a personalized and individual recommendation, which
should be based on your investment objectives, risk tolerance, and financial situation and needs. This information and any discussion also is not intended as a specific offer by Merrill Lynch,
its affiliates, or any related entity to sell or provide, or a specific invitation for a consumer to apply for, any particular retail financial product or service. Investments and opinions are subject
to change due to market conditions and the opinions and guidance may not be profitable or realized. Any information presented in connection with BofA Merrill Lynch Global Research is
general in nature and is not intended to provide personal investment advice. The information does not take into account the specific investment objectives, financial situation and particular
needs of any specific person who may receive it. Investors should understand that statements regarding future prospects may not be realized.
No investment program is risk-free, and a systematic investing plan does not ensure a profit or protect against a loss in declining markets. Any investment plan should be subject to periodic
review for changes in your individual circumstances, including changes in market conditions and your financial ability to continue purchases.
Asset allocation and diversification do not assure a profit or protect against a loss during declining markets.
Neither Merrill Lynch nor any of its affiliates or financial advisors provide legal, tax or accounting advice. You should consult your legal and/or tax advisors before making any
financial decisions. The investments discussed have varying degrees of risk. Some of the risks involved with equities include the possibility that the value of the stocks may
fluctuate in response to events specific to the companies or markets, as well as economic, political or social events in the U.S. or abroad. Bonds are subject to interest rate,
inflation and credit risks. Investments in high-yield bonds may be subject to greater market fluctuations and risk of loss of income and principal than securities in higher rated
categories. Investments in foreign securities involve special risks, including foreign currency risk and the possibility of substantial volatility due to adverse political, economic
or other developments. These risks are magnified for investments made in emerging markets. Investments in a certain industry or sector may pose additional risk due to lack
of diversification and sector concentration. Investments in real estate securities can be subject to fluctuations in the value of the underlying properties, the effect of economic
conditions on real estate values, changes in interest rates, and risk related to renting properties, such as rental defaults. There are special risks associated with an investment
in commodities, including market price fluctuations, regulatory changes, interest rate changes, credit risk, economic changes and the impact of adverse political or financial
factors. Income from investing in municipal bonds is generally exempt from federal and state taxes for residents of the issuing state. While the interest income is tax exempt,
any capital gains distributed are taxable to the investor. Income for some investors may be subject to the federal alternative minimum tax (AMT).
In addition to the risks associated with direct ownership in real estate, REITs may carry additional risks because they are dependent upon management skills, may not be diversified, are
less liquid and are subject to heavy cash flow dependency, defaults by borrowers and self-liquidation. A REIT could also fail to qualify for tax-free pass-through of income under the Internal
Revenue Code or fail to maintain its exemption from registration under the Investment Company Act.
© 2015 Bank of America Corporation ARRKG5NP

View publication stats