Real Estate Funds Hit by Housing Data

It was a black week for real estate funds. Aside from the two funds shorting the industry, the average real estate fund fell 4.11% in the five business days ended Thursday.

The latest readings on the housing market have exacerbated what has been a disastrous year for the homebuilding industry. It's difficult to imagine how the mid-October bulletins on the industry could have been much worse.

First, the National Association of Home Builders indicated that a broad measure of member confidence had collapsed to its lowest level since the series began in January of 1985. Gauges of current sales of single-family homes and traffic of new buyers both suffered declines.

A day later, the Commerce Department announced that housing starts crumbled 10% in September following a downward revised 3.2% setback in August, leaving new home construction 31% below September of last year. An indication that the damage was far from finished was that building permits sank 7.3% in September, following up on a setback of 4.8% the prior month.

Then the Federal Reserve got its shot in by noting in its "beige book" report that lower prices on new homes, the contraction of construction activity and tightening of the mortgage market would combine to slacken the pace of current economic expansion.

As if that weren't enough, less than a day later, the Conference Board's index of leading indicators rose just 0.3% in September. The biggest drag on their gauge of future economic activity was the drop in building permits.

Leading the retreat are the two exchange-traded funds targeting U.S. homebuilders. The iShares Dow Jones US Home Construction Index Fund(ITB:NYSE) fell 12.28%, while the SPDR S&P Homebuilders ETF(XHB:NYSE) dug a 9.74% hole. Both have earned our lowest possible rating, E-, for poor performance and excess volatility.

You didn't have to own a fund with a specialized investment mandate to feel the pain. Ratings searched its database for funds exposed to 10 major homebuilding stocks: Centex(CTX:NYSE), Champion Enterprises(CHB:NYSE), DR Horton(DHI:NYSE), KB Home(KBH:NYSE), Lennar(LEN:NYSE), MDC Holdings(MDC:NYSE), NVR(NVR:NYSE), Pulte Homes(PHM:NYSE), Ryland Group(RYL:NYSE) and Toll Brothers(TOL:NYSE). Each of the stocks is widely held by the funds we track.

Worst-Performing Real Estate Funds Ranked by returns for the week ending Oct. 18FundTickerRatingFund Type1 Week Total ReturniShares Dow Jones US Home Construction Index FundITBE-ETF-12.28%SPDR S&P Homebuilders ETFXHBE-ETF-9.74%Ultra Real Estate ProSharesUREUETF-9.09%Fidelity Select Home Finance PortfolioFSVLXE-Open-End-8.02%Neuberger Berman Real Estate Securities Income FundNROCClosed-End-7.90%ING Clarion Real Estate Income FundIIACClosed-End-7.58%iShares FTSE NAREIT Residential Index FundREZUETF-6.82%Adelante Shares RE Growth Exchange-Traded FundAGVUETF-6.64%ProFunds Real Estate UltraSector ProFundREPSXEOpen-End-6.56%DWS RREEF Real Estate Fund IncSRQC+Closed-End-6.33%Source: Bloomberg FUND HOLDINGS OF MAJOR HOMEBUILDERSNAME & TICKEROPEN-END FUNDS OWNINGCLOSED-END FUNDS OWNINGEXCH.- TRADED FUNDS OWNINGTOTAL FUNDS OWNINGVAL. OF FUND HOLDINGS ($MIL.)*Centex Corporation (CTX)2498443011,823.50Champion Enterprises Inc (CHB)116224142409.3DR Horton Incorporated (DHI)41318534842,073.60KB Home (KBH)37619454401,403.70Lennar Corporation (LEN)3297463821,863.50MDC Holdings Incorporated (MDC)157133191556.4NVR Incorporated (NVR)1960372331,019.10Pulte Homes Incorporated (PHM)2988483541,523.70Ryland Group Incorporated (RYL)153135189516.9Toll Brothers Incorporated (TOL)2120392511,020.40TOTAL12,210.20Source: Ratings (Data as of 9/30/2007).

Read here for an explanation of our ratings.

Rising as the rest of the sector crumbled, the two funds shorting the group were virtually the only oasis. In the volatile markets we are seeing, short-term trades in contrarian funds present opportunities. The ProFunds Short Real Estate ProFund (SRPIX) gained 4.62% by shorting the Dow Jones U.S. Real Estate Index. Likewise, the UltraShort Real Estate ProShares(SRS:NYSE) became the top performer, returning 8.73% by being leveraged 200% short the same index.

Best Performing Real Estate Funds Ranked by returns for the week ending October 18FundTickerRatingFund Type1 Week Total ReturnUltraShort Real Estate ProSharesSRSUETF8.73%ProFunds Short Real Estate ProFundSRPIXUOpen-End4.62%CGM Realty FundCGMRXC-Open-End1.05%RMR Preferred Dividend FundRDREClosed-End0.14%Fidelity Real Estate Income FundFRIFXE+Open-End-0.37%Kensington Select Income FundKIFAXE-Open-End-1.04%Alpine US Real Estate Equity FundEUEYXE-Open-End-1.49%RMR Hospitality and Real Estate FundRHRC-Closed-End-1.66%WisdomTree International Real Estate FundDRWUETF-1.82%AIM Select Real Estate Income FundASRAXUOpen-End-1.95%Source: Bloomberg

We also found three open-end funds and two exchange-traded funds with portfolios at least 10% exposed to the sector.

Not surprisingly, the two ETFs with the most exposure were the two that topped our worst performers list for the past week. The iShares DJ US Home Construction Index ETF is a pure homebuilding play, with the above 10 major builders making up 57% of its portfolio's value. Its biggest holdings include Champion Enterprises and Toll Brothers. The ETF's shares have been hit with a wrecking ball, down 45.83% in the 12-month period ended Sept. 30. They have collapsed 36.35% in the latest three months alone.

The SPDR S&P Homebuilders ETF takes a more oblique approach to the industry, with home improvement retailers, home furnishings and materials firms among its holdings in addition to homebuilders. Its largest holdings are Ethan Allen(ETH:NYSE) and Home Depot(HD:NYSE). The ETF's shares are down 34% for 12 months and 29.01% for the past calendar quarter.

The three open-end funds with at least 10% exposure to the homebuilding sector, Alpine U.S. Real Estate Eq Y (EUEYX), Fidelity Select Construction & Housing (FSHOX) and Franklin Real Estate Sec A (FREEX), are also ranked at the lowest possible grade of E- from Ratings. Grades of D+ or lower equate with current recommendations of sell.

Bottom Fishers Beware! Funds with at last 10% exposure to the hombuilding sector.NAME (TICKER)NO. OF MAJOR HOME- BLDGRS OWNED *VAL. OF MAJOR HOME- BLDGR. STOCKS *MAJOR HOME- BLDGRS PCT. OF HOLDINGS *3-MONTH TOTAL RETURN (%)12-MONTH TOTAL RETURN (%)OPEN-END MUTUAL FUNDSAlpine U.S. Real Estate Eq Y (EUEYX)525.513.97-8.32-0.45Fidelity Select Constn & Housing (FSHOX)716.110.24-9.674.43Franklin Real Estate Sec A (FREEX)7144.316.66-9-8.06EXCHANGE TRADED FUNDSiShares DJ US Home Cons Idx (ITB)1091.557-36.35-45.83SPDR S&P Homebuilders ETF (XHB)10141.640.45-29.01-34* Of 10 major homebuilding firms. Source: Ratings (Data as of 9/30/2007).