This is no time to chase homebuilders

Sentiment is too bullish and volume doesn't support these stocks' fast rise, but technical analysis can determine the price point to buy in on a pullback.

By Mar 26, 2012 5:30PM

Image: Home under construction (© Corbis) By Tom Aspray

Sentiment on housing stocks has certainly changed over the past five months, as the consensus view now seems to be that the housing market has bottomed. The fundamental data has improved sharply in 2012, causing one analyst to write this month that it is "an ideal time to load up on housing stocks."

Last fall, the tone was quite different. On Oct. 21, one headline called the housing sector "a mess," and in the story, the author cast doubt on the recent surge in housing starts, suggesting things were only going to get worse.

Then in early November, after the latest S&P/Case-Shiller data reported a 3.6% drop in housing prices, one analyst said "housing probably won’t go anywhere for the next several years."

At the time, the technical picture for the housing stocks was quite positive. This is another good example of how the technical action leads the fundamental data.

Now, the daily technical action of the homebuilders suggests a further correction is likely before the intermediate uptrend resumes. In a late February Trading Lesson, "don't miss another big rally," I shared some suggestions about how not to get caught up in buying frenzies, and I used the housing sector as one example.

Now that it appears that the homebuilders are completing their daily top formations, we can start to target the price levels for new buying.

Click to enlarge

Chart Analysis: The weekly chart of the SPDR S&P Homebuilders ETF (XHB) made further new highs this month, but looks ready to close a bit lower. Once above the recent high at $21.87, the next weekly resistance is in the $24.41 to $24.90 area.

  • The weekly relative performance, or RS analysis, completed its bottom formation last October (see circle) and is now in a solid uptrend, line a
  • The weekly on-balance volume (OBV) moved above its WMA in October, and by early December was in a clear uptrend
  • The major OBV resistance, line b, was overcome in early 2012. The OBV is well above its rising WMA, which is bullish for the intermediate-term trend
  • There is first good support in the $20.40 to $20.80 area, with more important levels around $19.50
  • The major 38.2% support is at $18.17

KB Home (KBH) made marginal new highs at $13.12 earlier this month, but dropped after that. It is now back to the recent lows at $10.55. It is already down almost 20% from the highs, which could be enough of a correction.

  • The 38.2% Fibonacci retracement support level is at $10.01, with the 50% support following at $9.05
  • The chart has trend line support, line c, right in the middle of the support zones at $9.60
  • The daily RS line failed to confirm the recent highs as indicated by line d. This is consistent with a further correction
  • The daily OBV formed a more significant negative divergence, line e, before dropping through support at line f
  • A daily negative divergence when there are not weekly divergences is consistent with a correction in the uptrend. For more on divergences, click here
  • There is initial resistance now in the $12 to $12.50 area

PulteGroup (PHM) has had a dramatic rally from the Oct. 4 low of $3.29, peaking at $9.69 earlier this month.

  • From the 2010 high of $13.91, the major 61.8% Fibonacci retracement resistance is at $10.50, with chart resistance starting at $10.70
  • The daily relative performance is in a strong uptrend, line b, and it did confirm the recent price high
  • However, the volume action did not support prices, as the OBV peaked in early February and has formed a negative divergence, line c
  • There is good OBV support at the uptrend, line d. A move in the OBV above resistance at line c will suggest the correction is now over
  • There is first good support between $8 and $8.20, with the 38.2% Fibonacci support next at $7.25

Toll Brothers (TOL) also made new highs at $25.07 this month. There is initial support now in the $22 to $22.30 area. The former chart resistance, now support (line e), is in the $21 area.

  • The 38.2% retracement support is at $20.50, with the 50% support sitting at $19.09
  • The RS line peaked in January, and has formed slightly lower highs, line f, as it has diverged from prices
  • The daily OBV also peaked early in the year, and has formed a series of lower highs, line g. It is now very close to the uptrend, line h, which if broken will signal a further decline
  • There is initial resistance at $25.07, and then the 2008 high of $28.

What it Means: The SPDR S&P Homebuilders ETF (XHB) is holding up better that the majority of the homebuilding stocks, as so far the correction in some of the homebuilders has not been that severe.

Typically, I would look for a decline to the 38.2% support level and possibly even the 50% retracement support. For a deeper correction, it would likely mean that housing data for the next month or two will disappoint investors.

The stronger stocks, like PulteGroup (PHM), may not see that deep a correction, but the risk on new longs at current levels is clearly too high.

How to Profit: For the SPDR S&P Homebuilders ETF (XHB), go 50% long at $20.28 and 50% long at $19.56, with a stop at $17.96 (risk of 9.8%). Cancel if $22 is hit first.

For KB Home (KBH), go 50% long at $10.18 and 50% long at $9.46, with a stop at $8.88 (risk of 9.6%). Cancel if $12.76 is hit first.

For PulteGroup (PHM), go 50% long at $8.16 and 50% long at $7.68, with a stop at $7.12 (risk of 10.1%). Cancel if $9.70 is hit first.

For Toll Brothers (TOL), go 50% long at $22.48 and 50% long at $21.58, with a stop at $20.36 (risk of 7.6%). Cancel if $25.17 is hit first.

Mar 27, 2012 1:24PM
 “Prices are bottoming but not necessarily turning upwards,” wrote Dan Greenhaus, strategist with BTIG


The housing market has been "bottoming" for the last two years. So what's new. Homebuilders are never going to go back to 2006 and that's got nothing to do with the housing bottom.

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