What happened
Shares of digital real-estate broker Redfin (RDFN 8.21%) fell 28.7% in September, according to data provided by S&P Global Market Intelligence. After ballooning over the last couple of years, housing prices are starting to drop and the market is cooling. Therefore, it's not hard to see why investors might be hesitant with Redfin stock right now.
So what
On Sept. 12, DA Davidson analyst Tom White lowered his price target for Redfin stock from $13.50 per share to just $9.50 per share. According to The Fly, White says that the U.S. housing market is a "headwind" for Redfin. And this pithy commentary about sums it up.
Redfin generates revenue from its brokerage services, buying and selling homes with RedfinNow, mortgage origination services, and more. But all of these income generators perform better in hot real estate markets. But as White points out, things are cooling down.
As the Federal Reserve takes action to combat high inflation, mortgage rates are rising, approaching 7% for a 30-year mortgage in September. For perspective, rates were closer to 3% to start 2022. This means monthly mortgage payments are going up. According to Redfin's research, the average mortgage payment climbed a whopping 15% in just the six weeks leading up to Sept. 29.
30 Year Mortgage Rate data by YCharts
The end result: Home purchases are increasingly unaffordable, which slows down sales. And this can lower prices.
Investors shouldn't be caught off guard because this is actually part of the Federal Reserve's plan. While discussing its latest rate hike, chairman Jerome Powell explained the need for a balance between supply and demand and then said, "We probably in the housing market have to go through a correction to get back to that place."
Not only does something like this affect first-time homebuyers, but it also disincentivizes homeowners with lower mortgage rates from selling. They know moving will mean borrowing at a higher rate. Therefore, for many, it's cheaper to stay put -- more ice water on the fire. This applies to a record 85% of current homeowners according to Redfin's research.
It's no wonder Redfin stock was down in September, underperforming the market's own 9% negative return.
Now what
Redfin can overcome a broad market slump by expanding its services and by taking market share. The company made some progress in this regard by launching a new market on Sept. 22: Hilton Head, South Carolina. It's just one market and it won't move the needle on its own. But it's part of Redfin's attempt to grow its market share beyond the 0.82% share it had at the end of the second quarter of 2022.
Redfin's management is guiding for 9% to 16% year-over-year revenue growth in the upcoming third quarter, which looks impressive given the headwinds we've seen. It's not expected to report until November. However, the guidance assumes an 18% to 28% jump in the revenue it generates from selling its inventory of homes. Considering the market slowdown, that may be a little overly ambitious, and it's something for shareholders to watch in Q3.
