Lumber prices have been on fire over the past few months, fueled by the surge in demand as the country emerges from COVID. Now it appears the rally has run out of gas.
Lumber prices are an input into one of the major leading economic indicators, the housing market. And though housing demand is currently red hot at a time when supply is running thin, homebuilders have been delaying construction as sky-high lumber prices have driven up costs.
This was evidenced when May housing starts rose less than expected, while homebuilder confidence fell to a 10-month low.
However, the trailing month has shown a reversal of the trend, with lumber prices falling significantly from their peak in early May.
What prices do from here is anybody’s guess. But one thing we have seen with other reopening trades is volatility, and volatility creates opportunity for investors. When it comes to ETFs, there are two ETFs offering exposure to the lumber industry through equities.
WOOD is 15 basis points cheaper, with an average spread of 0.21% relative to CUT’s 0.24%. While WOOD has 25 holdings, CUT takes a less specific and more diversified approach, with 203 holdings (two-thirds of which are due to a 0.23% position in the Invesco India ETF (PIN)).
Of the two ETFs, CUT was first to market, with an inception date in November 2007 relative to June 2008 for WOOD. However, investors seem to be drawn to the lower expense ratio, with WOOD having more than triple the assets of the smaller CUT, and seeing about 8x as much daily volume on average. When considering these two ETFs, it seems that here, diversification will cost a little extra. Nearly all of WOOD’s holdings are included in CUT’s portfolio, with the exception of Sumitomo Forestry, which is 3.2% of the portfolio.
In spite of their differences, both ETFs have been the beneficiary of skyrocketing lumber prices over the past year, rising more than 60% over the trailing one-year as of June 15.
Demand for lumber soared as homeowners in lockdown decided to renovate, and cheap mortgages kindled housing starts. On the supply side, lumber mills, like many other industries, faced labor market challenges.
However, over the past month, CUT has fallen by 3.4%, and the more concentrated WOOD has dropped by 6.0%.
Performance Chasers Beware
Analyzing these ETFs using the ETF Fund Flows Tool helps to illustrate the important but too-often-forgotten lesson of the perils of chasing performance.
Both funds had been relatively quiet in terms of flows, beginning to gain traction in April and May, when lumber prices were set aflame.
WOOD experienced its highest daily inflow on May 11, with nearly $17.5 million coming into the fund, and the following day seeing an additional $17.3 million. CUT’s flows tell a similar story, with $4 million in flows on May 7.
Since then, WOOD has seen outflows, while CUT’s investors seem to be holding steady.
But what does performance look like since early May?
In investing, time horizon is an important consideration. If you are trying to time the market with lumber prices, good luck. If you are looking for a buy-and-hold position in the industry, the choice between ETFs comes down to costs since the overlap is heavy and, not surprisingly, returns have mostly been in lockstep.
Those with shorter time horizons might want to consider paying up for slightly more diversification, as, at least for the moment, WOOD appears to be more negatively impacted by the crash in lumber prices.
Courtesy of StockCharts.com
For prior articles on Timber ETFs, check out our Timber ETFs channel.
Contact Jessica Ferringer at email@example.com