What Recent Data Means for Homebuilders

by Ethan Roberts | February 16, 2012 2:55 pm

A slew of homebuilding reports out this week have brought a mix of positive and negative news, leaving investors to figure out which direction the housing market is heading.

On Wednesday, the February National Association of Home Builders/Wells Fargo housing market index showed confidence levels among homebuilders increased from 25 in January to 29 this month — the fifth consecutive monthly increase and the index’s highest level in more than four years. Granted, a 29 still is far below the 50 mark generally considered good for the industry, but we haven’t seen a reading like that since April 2006.

Then today, the Commerce Department’s report for single-family housing starts showed a January increase of 1.5% to an annual rate of 699,000. Analysts had only expected 680,000 new starts. A surprising drop of 13,000 in weekly jobless claims also was reason to smile, as improvements in employment normally are correlated with better housing sales.

However, throwing a wet blanket over the good news for the housing industry was today’s report that foreclosure filings rose again. According to Realty Trac, one in every 624 U.S. households received a foreclosure filing in January, up 3 percent from December.

This is a troubling situation — builder inventory might start to climb simultaneously with an increase in foreclosure numbers. New-home sales have been hampered in recent years by first-time homebuyers opting for inexpensive foreclosures of newer homes, so the Realty Trac report doesn’t bode well for new-home sales going forward.

Another impediment to new-home sales is the recent settlement among the 50 attorneys general and the five largest banks over deceptive lender practices. Banks had been holding many of their foreclosures in the pipeline, awaiting resolution of the deal. Now that the agreement has been reached, they are likely to begin releasing more of these homes during the next 12 months.

What does this mean for homebuilder-minded investors? Let’s take a look:

Buy, Sell or Hold?

The homebuilder stocks have been one of the strongest sectors in the stock market during the past three months, with sector stalwarts Hovnanian (NYSE:HOV[1]), which I wrote about last month[2], up 123%, KB Homes (NYSE:KBH[3]) up 65%, and Beazer Homes (NYSE:BZH[4]) up 64%. The SPDR S&P Homebuilders Index ETF (NYSE:XHB[5]) is up 20% in that same time frame.

However, homebuilder stocks showed only a tepid response to this morning’s news, up only slightly. There also seems to be more selectivity now among companies being bought by investors, with a narrowing range of stocks in the sector continuing to show relative strength.

If you are long one of the aforementioned stronger homebuilders, I would hold until the story changes. However, if you are long on one of the weaker stocks, it is time for caution. Two strategies an investor can use is to tighten stops, or to buy March 17 Puts as a hedge against a decline.

As tempting as it is to buy what’s going up, I also would caution against chasing hot, overextended stocks. Short-term traders may do well, but longer-term investors could be getting in right before a correction. Stocks generally don’t continue higher after gains of 65% or more within a three-month period.

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It is also troublesome that XHB has been trading sideways for the past week, and the Relative Strength Index seems to be weakening, as shown by this chart:

Although the XHB seems to be holding around 20, the RSI has fallen from just over 70 to 59. This shows that the momentum for homebuilder stocks seems to be subsiding.

One also has to wonder about the accuracy of some of the employment numbers coming from the Labor Department in this election year, especially since we continue to see increases in foreclosure filings. Either more people are out of work than are being reported, or more fully employed people are deciding to let their homes go anyway. Either of these possibilities is disturbing, and could be a negative for the housing industry in months to come.

We’re still a long way from the sustained growth necessary to keep homebuilder stocks on the rise. After an extended run-up in the past few months, investors should set tighter stops, hedge their long positions with puts, and get selective about owning only the homebuilding sector’s strongest stocks.

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

  1. HOV: http://studio-5.financialcontent.com/investplace/quote?Symbol=HOV
  2. which I wrote about last month: https://investorplace.com/2012/01/homebuilder-stock-new-home-sales-december-2011-report/
  3. KBH: http://studio-5.financialcontent.com/investplace/quote?Symbol=KBH
  4. BZH: http://studio-5.financialcontent.com/investplace/quote?Symbol=BZH
  5. XHB: http://studio-5.financialcontent.com/investplace/quote?Symbol=XHB

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