Bet Against the Bears Heading Into KB Home’s Earnings

Economic indicators keep pointing in the homebuilder's favor

   

Hot on the heels of better-than-expected housing data, KB Home (NYSE:KBH) is slated to release its first-quarter earnings report ahead of the open Thursday morning.

The homebuilder has benefited greatly from the rebound in the housing market, as well as its partnership with mortgage servicer Nationstar Mortgage (NYSE:NSM) and its collaborative efforts with alternative energy specialist SunPower (NASDAQ:SPWR).

With the ability to streamline the lending process and green energy offerings, KB Home is well-positioned to take advantage of bottoming home prices. Remember that in January, the company said new home orders jumped by 54% at that point in the quarter, resulting in a 35% rise in the average value of KB’s backlog — a nearly six-year high.

Turning to the first-quarter figures, analysts are expecting a first-quarter loss of just 22 cents per share, down sharply from a loss of 54 cents per share in the year-ago period. Revenue, meanwhile, is expected to have risen 41% to $359.8 million.

The company’s success has brought it considerable attention in recent months, as analysts have adjusted their expectations higher. For instance, ISI Group lifted its price target on KBH to $14.50 despite reiterating a “cautious” rating, while Raymond James upgraded the stock to “outperform” from “market perform.”

Still, despite the recent change of heart by a few in the brokerage community, the mood remains rather non-committal on Wall Street. According to data from Thomson/First Call, KB Home has attracted just five “buy” ratings, compared to 13 “holds” and five “sells.” Furthermore, the consensus 12-month price target of $18.75 represents a discount to KBH’s close at $21.03 on Tuesday. Clearly, there is plenty of room for additional upgrades and/or price-target increases if the company continues to outperform.

Taking a look around KBH’s sentiment backdrop, we find that analysts are not alone in their bearish stance toward the security. Despite plunging more than 32% during the past five months, short interest still totals a hefty 17.89 million shares, accounting for some 27% of KBH’s total float (or shares available for public trading). This wealth of short interest increases the chances of KBH benefiting from a short-squeeze situation.

Over in the options pits, short-term speculators are also placing sizable bets against KBH. Put open interest in the April/May series of options totals nearly 64,000 contracts, compared to call open interest of only about 32,000 contracts. The result is a put/call open interest ratio of 2.01 for the front two months.

The most popular strikes are the deep-out-of-the-money April 14 and 15 puts, which sport 17,561 contracts and 19,148 contracts, respectively. On the call side, the near-the-money April 21 strike numbers call open interest of 4,797 contracts, followed closely by the April 20 strike, with 4,008 contracts.

Looking at April implied volatility, options traders are pricing in a significant post-earnings move of about 10% following tomorrow morning’s first-quarter earnings report. Based on yesterday’s close, this places KBH somewhere between a low near $18.80 or a high near $23.20.

With KBH shares up nearly 50% since mid-November, the stock hardly seems deserving of the negativity levied against it. Furthermore, economic indicators appear to be continuing to move in KB Home’s favor. As such, I’m inclined to bet against the crowd heading into the company’s quarterly report.

Given April implieds, an April 21/23 bull call spread might have a good chance at hitting solid profit.

At the close of trading on Tuesday, this trade was offered at 72 cents, or $72 per pair of contracts. Breakeven lies at $21.72, while a maximum profit of $1.28 — or $128 per pair of contracts — is possible if KBH closes at or above $23 when April options expire.

As of this writing, Joseph Hargett did not hold a position in any of the aforementioned securities.


Article printed from InvestorPlace Media, http://investorplace.com/2013/03/bet-against-the-bears-heading-into-kb-homes-earnings/.

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