Home builder stocks are an interesting group right now. Back in mid-September, the group surged on word that builder confidence was increasingly positive. They’ve pulled back since amid broader market volatility but have again bounced in the last week.
The stock I’m most interested in from that group of home builder stocks for trading purposes is the Ryland Group (RYL). RYL is 25% off its 52-week high set in early March. It is priced as if the housing market was crashing, but that is not the case. Even “moderate” building and home-buying activity should drive substantial cash flow, and with management eager to use that money to reward shareholders, this is an attractive story that should catch the attention of more and more investors heading into next week’s earnings report.
Throughout the 1990s, RYL occasionally struggled, but generally managed to grow cash flow 15% to 20% in most years. The comparison is useful for us because while hindsight paints the era as an economic golden age, those of you who remember it know that those years were not a non-stop boom. The economy occasionally showed signs of sputtering or stalling. Geopolitical crisis points fueled fears of global contagion and currency meltdown. Key players in the international marketplace defaulted on their debt or simply ceased to exist.
Sounds like the present, doesn’t it?
RYL has a good shot at prospering in anything like that “moderate” housing environment. And in that event, the free cash flow potential here is truly exceptional.
As it is, RYL is generating between 7% and 9% a year on its assets, but has elected to use that money to pay down debt rather than increase the token $0.12 annual dividend. Any appreciable growth from here would add tens or hundreds of millions of dollars to the balance sheet. We know that recent growth has been slower than what Wall Street hoped to see, but even at these levels, it still looks to be enough to fund $140 million to $150 million in share buybacks, which could be a real catalyst.
Should RYL go ahead with a program on that scale – which the board has already approved – it would have a transformative impact on this $1.7 billion stock. And even the announcement of such a buyback to match what rival home builder stocks like NVR (NVR) and PulteGroup (PHM) have already put in place would likely unlock plenty of value here.
Looking at the way the stock has traded, the RYL chart presents us with a decent entry point. Shares have recovered nearly 15% since last week’s low and 9% since the “too slow” earnings disappointment to end July. It is now wrestling with its 50-day moving average again, and even a small added lift here opens the chart all the way to $38.45. Should we get good news in the Oct. 27 earnings call, RYL has the potential to bounce 20% or more on the right combination of news and pure technical force.