Housing is dead: Time to buy homebuilder stocks?

If you're looking for a contrarian bet, these shares might become too cheap to resist.

By TheStreet Staff Aug 19, 2011 11:18AM

Image: Home under construction (© Corbis)By Chris Stuart, TheStreetTheStreet

 

No one is buying homes, never mind homebuilder stocks. Companies such as Pulte (PHM), DR Horton (DHI) and Lennar (LEN) may even be the most contrarian investment today.

 

The outlook for the housing market, as reported by the mass media, is not good. In case you've missed them, here are a few of the headlines from over the past several weeks:

 

 "No recovery in sight for US housing market"

 

"July real-estate market fell short of expectations"

 

"Housing data show sector is still weak"

 

And so it's true, housing reports have been about as upbeat as a mortuary trade magazine. In the recently released July report from the Commerce Department, housing starts decreased by a seasonally adjusted 1.5% from June, while permits for new construction fell 3.1%. For reference, July's annualized 604,000 is a far cry from the 2.07 million homes that were started in the heyday of 2005.

 

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As a result, shares of homebuilders have been crushed. The S&P 500 Homebuilders index has plummeted 27% over the past month, twice that of the broader index. (That S&P sector comprises Pulte, DR Horton and Lennar.) Of 154 industries that make up the benchmark S&P 500 Index ($INX), homebuilders are ranked 147th for that period.

 

But there's encouraging news. For one, housing starts in the Northeast were up 35% in July from June. Also, overall housing starts are up 10% from last year, with demand for large rental units growing significantly -- up 67%.

 

However, while the Northeast -- and, to a lesser extent, the South, which showed month-to-month improvement of 5% -- has looked strong, the Midwest is suffering. Starts in the Midwest fell 38% from June, and 17% from a year earlier.

 

With the absence of any exciting improvement in housing stats, shares of large homebuilders haven't been able to get any love from Wall Street. Many are trading at book value or below.

 

It's definitely a contrarian bet, but I'm starting to think it might make sense to consider homebuilders for investment. My thoughts are that, while the housing market doesn't look spectacular, there are signs that could lead to a catalyst for some of the homebuilding stocks.

 

For one, rents in many regions are sky-high. A recent article in the Boston Globe noted that rents in the Boston area had hit a median $1,665, with vacancy rates falling to a decade low. People are opting to rent lower-quality units at high prices.

 

Certainly, consumers are scared of mounting economic problems. Buying a home, once thought to be the ultimate achievement for any working individual or couple, has become an afterthought. Why buy a house when there's a chance you'll lose your job or have the home deteriorate in value after a purchase?

 

Yet with 30-year mortgage rates plunging to almost 4%, when does this newly attached stigma associated with buying a home disappear? When do people start to realize that buying a home at historically low rates is a better option than overpaying for a less-than-desirable rental unit? And if this demand starts to pick up, demand for new homes will only improve.

Sure, the situation is a lot different in other parts of the country. In areas where excess supply might take years to match demand -- such as in Arizona and Las Vegas, among others -- the length of recovery will likely exceed that of Boston, New York and San Francisco.

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