Building Stocks At Risk If Mortgage Rates Keep Ris

New York, NY, Aug. 24--The ripple effect of rising mortgage rates has reached Wall Street. Homebuilders have been dealt a blow. After peaking in mid-June days after yields on ten-year Treasuries hit bottom, the Dow Jones home-construction index--including names like Centex, Lennar, Pulte and Toll Brothers--has fallen 8.3%, even as the Dow industrials edged higher. But they're not the only companies over which homeowners hold much sway. There's a broad swath of businesses that peddle to builders, fixer-uppers and new-home owners: the Black & Deckers and Whirlpools and Mohawks of the world. The companies that fill up the shelves at Home Depot and Lowe's include makers of everything from carpeting and flooring to windows and cabinets. In the past month, the Dow Jones household durables index, which includes tool and hardware companies like Black & Decker and Stanley Works, was the fourth-worst performing industry group tracked, with a loss of 3.2%. Industry analysts say the selling may continue, but the question is, for how long, and how deep? "I worry more about the stocks than I do about the fundamentals of these businesses. The perception when we start to get some consistently negative housing numbers is quickly reflected in the stocks," says Eric Bosshard, an analyst for FTN Midwest Research in Cleveland. "Rising mortgage rates and a dropoff in refinancings are going to negatively affect these companies this year," he says. "Nobody knows for sure when or what the impact will be, but we all know there will be an impact." The frenetic housing market is indeed showing signs of a slowdown. The Mortgage Bankers Association of America expects annual housing starts to drop to 1.66 million in 2004 from 1.69 million in 2003. Starts hit 1.70 million in 2002. It predicts a large dropoff in mortgage originations next year, to $1.536 trillion from $3.185 trillion. Applications for home purchases and refinancings sank nearly 11% for the week ending Aug. 15, compared with the week earlier, as mortgage rates climbed. The index was down a whopping 34% compared with a year earlier. And yet, mortgage rates remain historically very reasonable. While refinancings may fall off a cliff, they are spurred by very different factors than new- or existing-home purchases, which economists expect to remain strong. "Refinancing is dependent totally on rates, but home building is about demographics, growing families, income...you name it," says Stuart Hoffman, chief economist for PNC Financial Services in Pittsburgh. "This will be the top of Mt. Everest and all roads lead down, but the numbers will still be quite respectable." Recent economic reports back him up. Home construction jumped to a 17-year high in July, according to the Commerce Department, in the face of rising mortgage rates. Hoffman expects the market to cool, however. "A lot of people who might have been debating made the decision as rates started to rise, the so-called fence sitters said 'I better buy now while mortgages are still very attractive,'" he says. "After September, I expect things to fall off." Analysts who cover the companies related to the housing market remain calm. One reason is they expect the benefits of the recent round of refinancings--with newly freed-up cash often going to home renovations--to continue for months, if not years, after mortgage activity wanes. "There's a long tail of spending that follows moving into a new home. There's a lot of projects that are done in the years following such a move--you have a beneficial hangover these companies will realize even if home sales slow," says Bosshard. "It could be a couple of years, and it's most intense in the first 18 months." First-time homebuyers often stretch their pennies to afford a home, and renovations can move at a crawl. A deck one summer, a refinished basement the next, and so on. That could keep retailers like Home Depot and Lowe's, and companies that supply them, buoyant. Meanwhile, analysts are expecting business spending to pick up the slack if consumer spending tapers off. Again, the numbers are there. According to the most recent gross domestic product report, investment in nonresidential structures turned positive in the second quarter for the first time since the fourth quarter of 2000, rising 4.8%, compared with a 17.6% drop the year earlier. Lending volumes for commercial spaces and apartments are also way, way up--they surged 56% from the first quarter to the second, and were up 29% over the year earlier, according to the MBAA. The largest dollar increases were from apartment lending; loans for retail shopping-center properties were up 44% from a year earlier, and office-building lending was up 39%. "The trends point toward [improvements in] commercial business, which has been terrible for three years, in the next year," says Keith Hughes, an analyst for SunTrust Robinson Humphrey in Atlanta. Some companies are shifting their focus, he says. He cites Mohawk a flooring company on which he has an "overweight" rating, as one example. The company, which Hughes says derives about 25% of its business from commercial business, purchased Lees Carpet from Burlington Industries in July. Hughes says the new unit will provide an "excellent commercial opportunity," serving office buildings that need carpet.