Is the housing recovery over? From one look at the homebuilder
stocks you would think so. The steep climb in interest rates has
taken the whole group into bear market territory and the $6.3
billion Pulte Group (PHM), builder in over 25 states, has been a
leader of the decline.
At its May peak, the stock was trading over $24, which means its
market cap was over $3 billion greater only 3 months ago. Since it
became a Zacks #5 Rank Strong Sell on August 3rd, it has fallen
another 8% from $17 to $15.65.
Here's a look at the trend of earnings estimates for PHM which
shows how the dreaded Fed "taper talk" has turned the outlook for
this builder and others...
As we have watched stocks like Ryland (RYL), KB Homes (KBH), Lennar
(LEN), and DR Horton (DHI) get clobbered by 25% to 35% since their
May highs, PHM was down 40% last week. It is also the first of
these to slip to a Zacks #5 Rank.
And while some of these names still sport a Zacks #2 Rank Buy, this
is probably because analysts have not gotten around to lowering
their estimates yet. The group as a whole carries a Zacks Industry
Rank of 185 out of about 250, placing it in the lower third of
This rout of the builders forced me to wonder "If this move in
interest rates -- back to some degree of normalcy in QE's twilight
-- is negatively impacting what was reasserting itself as a key
industry in the US economic recovery, then where will we be when
the 30 year mortgage reaches 5%? In other words, if we can't handle
this rate rise, what happens without any QE bond-buying and the
Fed's exceptionally low rates?"
I recently had a conversation with economist John Blank, who also
serves as Zacks Chief Equity Strategist, about these impacts and
here's what he had to say about rising interest rates reducing
"The only way housing demand is not affected is if the other
affordability variables overwhelm the rise in interest rates. So
expectations for income growth and job security have to go up, down
payment terms have to fall, underwriting standards have to loosen,
and lengths of amortization have to rise.
These things can happen. All too often we think that a rise in
interest rates will just simply lower demand. That is only the case
if all of these other variables do not move."
Viewed this way, it makes a lot of sense what is going on in the
market with homebuilder stocks. With the bond vigilantes finally
free of the Fed's "ownership" of the Treasury market, they are
pricing-in the new levels of risk in fixed income and the economy.
And that means the onus is on the rest of the economy to improve to
justify homebuilders earnings estimates and valuations. Until then,
tread carefully in the names with dropping estimates and a Zacks
Rank of #3 or worse. More of these may become #4's or #5's before
they become #1's again.
Values may abound, but the full impact of rising rates may not be
factored into all analyst estimates yet.
Kevin Cook is a Senior Stock Strategist for Zacks.com
D R HORTON INC (DHI): Free Stock Analysis
KB HOME (KBH): Free Stock Analysis Report
LENNAR CORP -A (LEN): Free Stock Analysis
PULTE GROUP ONC (PHM): Free Stock Analysis
RYLAND GRP INC (RYL): Free Stock Analysis
To read this article on Zacks.com click here.