Home Builders See Shares Rise as Housing Data Soft
Washington, August 30--Major home builders could keep building up their businesses even if home sales continue to slow, as counterintuitive as that may sound.
For years now, economists and pundits have been yammering on about a soon-to-burst housing bubble – seemingly, a bad thing for home-building stocks.
Recent data show the bubble may be starting to hiss, but many analysts are still bullish for the prospects of companies that build homes. Investors agree, apparently, and have been snapping up housing stocks in the past month even as home-sales data start to soften. In August, the Dow Jones home-construction index is up 8.7%.
"You must differentiate between the housing market and the home-building industry. The reason home-building stocks are interesting is because large public home builders are taking share away from private home builders that make up 80% of the market," says Carl Reichardt, an analyst for Wachovia Securities in San Francisco. "There is potential growth embedded in the public side of the industry" even if the home sales falter overall.
In 1990, large publicly traded home-building companies built less than one home out of every 10 new homes sold in the U.S. By 2003, that number was up to 20%, according to the Public Home Builders Council of America, made up of 13 of the biggest home-building companies. Keeping in mind the group's bias, it projects it will hold 35% to 40% of the home-building market in the U.S. by 2010.
Earnings in the sector are still robust. Last week, for example, Joel Rassman, the chief financial officer of home builder Toll Brothers, projected revenue and earnings growth of at least 20% in 2005 and 2006. He also said the company doubled its top line since 2000 "despite a recession, dramatic job losses, a severe stock market slump, volatile interest rates and global political turmoil." He said bigger builders with the deep pockets necessary to control land sites – which are limited – will continue to steal market share from less liquid builders.
Bigger home builders also have an advantage by economies of scale – because they're able to buy products in bulk, they can often get a discount.
Meanwhile, analysts say an expected slowdown in the housing market is already baked into the stocks, which peaked in March this year and skidded throughout the summer before rebounding late in July. For the year, the Dow Jones home-construction index is outpacing both the Dow industrials and the broad market with a gain of 4.1%. The Dow industrials are down 2.5% for the year, while the S&P 500 is off 0.4%. The Nasdaq Composite Index has lost 7.1% so far this year.
"I don't think a slowdown in housing is going to come as a great surprise to anyone who's read a newspaper in the last year," says Mr. Reichardt. "The market discounts available knowledge and that's one reason home-building stocks trade at 6.5 times 2005 earnings."
Those valuations are very low compared with the overall market, which is trading at about 16 times expected earnings, according to Thomson First Call.
Demand – while abating somewhat – is far from drying up. Mortgage rates are still alluring, for one thing. Freddie Mac reported Thursday that its latest nationwide survey showed that rates on 30-year, fixed-rate mortgages stood at 5.82% for the week ending Aug. 26 – down from about 6.28% a year earlier.
While plenty of those looking to buy have done so in the last year, enticed by low rates, there's always more where they came from. Mr. Reichardt notes that there are about 1.3 million new households a year. "Where are they going to live? In a cave?" he asks.
Of course, not everyone on Wall Street is so optimistic.
The Mortgage Bankers Association's Purchase Index, a gauge of new loan requests for home purchases, is down 11.7% from its all-time high in January. Michael Panzner, head of sales trading at Rabo Securities USA, says despite that the housing market has remained robust.
