Author: S.C.
1. Executive Summary
Monetary policy continued to normalise, moving in the right direction for the housing and construction sectors. Nevertheless, concerns about Trump’s potentially inflationary policies pushed long-term yields higher, leading to volatile markets for US homebuilding stocks at the end of the year.
Lumber prices rallied to new highs for the year, supported by fears of new tariffs from the Trump administration and the curtailments announced by several lumber producers in recent months, before correcting in December.
2. Macro Overview
Equity markets were choppy in Q4, with the Trump-fuelled rally in US equities in November partially offset by a sharp correction in December and volatile European equities. Housing stocks were particularly hard hit, with the S&P homebuilder sub-index falling -24% in Q4, wiping out gains for the year, as US yields rebounded sharply after the welcome drop in Q3. On a positive note for the property and construction sector, major central banks continued to cut interest rates in Q4:
- The ECB cut twice by 25bps, as did the Federal Reserve
- The Swedish Riksbank cut twice, once by 50bps and once by 25bps
- The SNB cut by 50bps
- The BoE cut by 25bps
Yields in Europe were less volatile and stayed lower, as inflation expectations are diverging between Europe and U.S., driven by speculations on the effects of Trump’s agenda.
United States
The market expects Trump’s policies to be rather inflationary and this, combined with uncertainty about the new administration’s fiscal discipline, has pushed yields higher and steepened the yield curve. The Federal Reserve cut rates again in December, which is good, but comments and data pointing to a slower pace of cuts next year have also pushed yields higher. The economy and markets are going through a major adjustment phase, with monetary normalisation being partly challenged by political and hence fiscal uncertainty, so volatility should not be surprising.
Figure 1: Housing starts in the U.S. Sources: U.S. Census Bureau and U.S. Department of Housing and Urban Development; Timber Finance. Data retrieved from FRED, Federal Reserve Bank of St. Louis.
U.S. housing starts (Figure 1) remained overall resilient, in particular for single-family homes. Multi-family starts declined, under pressure from higher long-term rates, which may lead to further headwinds into early 2025 due to lag effects from the rise in yields during Q4. The average 30-year U.S. mortgage rate had fallen from a peak of nearly 7.6% to a low below 6.6% in September and finished the year at 7.3%. High interest rates are still inhibiting transactions in existing homes, which, all else equal, provides support for new home construction – this was a strong tailwind for U.S. homebuilders in the last several quarters. However, the rise in yields in Q4 has already been felt by homebuilders such as Lennar, which reported on 18 December and disappointed the market.
Europe
As has been extensively and thoroughly commented on in previous reports, the slowdown in construction activity in Europe has been much more pronounced than in the US, with several markets falling to levels comparable to those seen during the Great Financial Crisis. Both the speed and the magnitude of the decline are striking relative to historical patterns, but this should not be too surprising given the speed and magnitude of monetary policy tightening in 2022-2023. The fact that the policy tightening was not immediately reversed, and that it took a while for central banks such as the ECB to adopt a more dovish tone, with a primary focus on avoiding a resurgence of inflationary pressures, has also exacerbated the situation.
Figure 2: Building Permits (12-month average) in Germany, Finland and Sweden. Sources: Statistics Sweden, Statistics Finland, Statistisches Bundesamt.
On the positive side, the most recent datapoints are showing signs of stabilisation, albeit at low levels of activity. Support comes from normalising monetary policy, detailed earlier, and in certain cases undersupply of residential properties, which is particularly severe in markets like Germany. The 12-month moving average (Figure 2) smooths the graphs and makes them more readable, but it hides the most recent trend of stabilisation, especially in Germany (Figure 3).
Figure 3: Building Permits (monthly) in Germany. Sources: Statistisches Bundesamt.
Sweden, an important market for timber construction, has also stabilised. When and how strongly construction activity will pick up in the future depends on many variables, including inflation, monetary policy and geopolitical factors. In Sweden in particular, vacancy rates have risen from the lows of 2017 and are now at levels comparable to 2008, with the increase driven by smaller suburban areas. Unless we see a reversal of this vacancy trend, for example due to increased immigration, the recovery is likely to be rather moderate.
3. Timber Stocks
The Timber Finance Carbon Capture & Storage Index fell -14.8% in Q4 and was down -15.3% for the year. The best-performing group in the index in Q4 was real estate developers – Nexity, the French pioneer in timber and other low-carbon construction, and Ina invest, the Swiss developer focused on timber construction and with ambitious targets to reduce the embodied carbon in its portfolio. Ina was supported, among other factors, by the aggressive interest rate cuts by the SNB.
The rise in yields, partly linked to Trump’s victory, generally put pressure on companies with higher debt levels and otherwise high interest rate sensitivity in their businesses (such as multi-family housing). This was the case in the US for timberland REITs and Builders FirstSource. Companies with strong balance sheets and strong brands, such as Trex and Louisiana Pacific, outperformed, although they are not immune to higher interest rates. Lumber producers were also weak, hit indirectly by higher interest rates and tariff fears (although they tend to have a geographically diversified asset base).
European stocks, except for the developers mentioned earlier, continued to lag, with no particular signs of a cyclical recovery, volatile long-term rates (albeit less so than in the U.S.) and an established downward trend in their share prices. The worst performer was Steico, the German wood fibre insulation specialist – continued weakness in the German construction market failed to provide a positive macro catalyst, and the sharply reduced transparency of its quarterly reports following its acquisition by Kingspan reignited fears that the company might be taken private. A turnaround for European timber stocks will probably require lower (or at least stable) long-term yields and more concrete signs of a recovery in construction activity, following the encouraging signs of stabilisation mentioned above.
Figure 4: Price-to-Book ratios for timber stocks. Sources: Bloomberg, calculations by Timber Finance.
From a valuation perspective, the market remains pessimistic about the prospects for Canadian lumber manufacturers and European real estate developers, as evidenced by the large discounts to book value (Figure 4) for the two groups (the high P/B for US wood products manufacturers and distributors is a reflection not only of generous valuations but also of different business models with high returns on capital). For lumber manufacturers, higher lumber prices have been offset by the effect of higher U.S. rates and tariff concerns, while for European developers, the market seems to be still waiting for more signs of a recovery in transactions and construction activity and more certainty on valuations, especially in the frozen commercial property segment.
4. Disclosures and Conflicts of Interest
Some or all the companies mentioned in this report may be included in the Timber Finance Forest-Based Construction Basket tracker and are part of the Timber Finance Carbon Capture & Storage Index. Timber Finance Management and/or the Timber Finance Initiative may have commercial relationships or be in discussions with some of the companies mentioned in this report. Specifically, Stora Enso is a member of the Timber Finance Initiative association.
Please note that this research is prepared for information purposes and targeted to institutional investors in Switzerland. It does not represent investment advice and does not take into consideration the individual requirements, risk tolerance and goals of an investor. Recipients who are not Swiss institutional investors should seek the advice of their independent financial advisor prior to taking any investment decision based on this report or for any necessary explanation of its contents.
The information presented in this report is obtained from several different public sources that we consider to be reliable. Nevertheless, we cannot guarantee the accuracy of the presented information. The information used may change quickly and we are not committed or obliged to modify the reports base on new information. The opinions and views expressed in this report reflect those of the author at the point in time of its compilation and may vary at any time. Valuation methods like DCF and any other analysis or expert judgement do not provide any guarantee that the target price or fair value will be reached, for example because of unforeseen changes in financial or economic conditions.
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