Homebuilding Turning Bullish

Homebuilder stocks are on a tear as investors bet that a dearth of previously occupied homes on the market and moderating mortgage rates will boost builders' prospects in the spring homebuying season.

KB Home, PulteGroup, and Tri Pointe Homes are among more than a dozen U.S. homebuilders whose stock price is up by more than 20% this year. One prominent exchange traded fund, the SPDR S&P Homebuilders ETF, is up nearly 10%. Meanwhile, the benchmark S&P 500 index is up about 7%. "We think homebuilding stocks may be looking ahead, perhaps crossing the valley from recession to potential recovery in (the second half of) 2023," CFRA analyst Kenneth Leon wrote in a recent research note.

Builders are coming off of a lousy 2022 as mortgage rates skyrocketed to a two-decade high, sidelining many would-be homebuyers. The surge in borrowing costs after years of soaring home prices pulled the housing market into a deep slump. Sales of new U.S. homes fell about 17% last year from a year earlier to the lowest seasonally adjusted annual rate in four years, according to the Commerce Department.

At the expense of less healthy profit margins, homebuilders reduced prices and began offering incentives like covering buyers' closing costs. An easing in average mortgage rates this year has also helped entice some buyers. After climbing to an average of 7.08% in November, the rate on a 30-year home loan averaged around 6.37% in the first three months of this year, according to mortgage buyer Freddie Mac. New home sales rose on a monthly basis in December, January, and February, though sales in February were still down 19% from a year earlier.

While many economists project this will be another down year for sales of new and existing homes, some builders are dialing back buyer incentives and raising prices. They're encouraged by the modest easing in mortgage rates and the prospect of capitalizing on demand this spring at a time when the number of existing homes for sale remains near historic lows. Consider, from 2000 until the pandemic, new homes represented about 11% of all homes for sale. This year, that's risen to 27%. "We're so far below where we were pre-Covid in terms of existing home inventories, the notion is the builders have a chance to take market share in this environment," said Wedbush analyst Jay McCanless, who has 'Outperform' ratings on several builders, including KB Home, Taylor Morrison and Tri Pointe Homes.