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Home-builder stocks sink despite U.S. housing sector's gains

While home prices continue to rise, the sector’s gains haven’t translated into good news for home-builder stocks, which are steadily retreating.

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U.S. housing seems to be recovering and faltering all at once.

While home prices continue to rise, the sector's gains haven't translated into good news for home-builder stocks, which are steadily retreating.

The divergence was particularly apparent on Tuesday when the latest figures from the Standard & Poor's/Case-Shiller index showed that single-family home prices in a composite of 20 U.S. cities rose by 0.9 per cent in June on a seasonally adjusted basis, continuing a solid trend. The five months before that had produced the biggest price gains in seven years, fuelling hopes that the United States had finally overcome its worst housing crash in modern history.

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But home-builder stocks moved in the opposite direction on Tuesday. Shares of two of the biggest companies, PulteGroup Inc. and D.R. Horton Inc., lost 3.5 per cent and 3.8 per cent, respectively, far exceeding general market losses on the day.

"One would generally expect a correlation between home builders and the housing numbers," said Jordan Snow, senior fund analyst at Westcourt Capital Corp.

The anomaly, like nearly every current economic trend, can be attributed to one bearded man in Washington. U.S. Federal Reserve chairman Ben Bernanke began to hint this spring at his plans to taper the central bank's bond-buying program, which is still pumping $85-billion (U.S.) a month into Treasury bonds and mortgage-backed securities.

Soon afterward, home-builder stocks began to lose ground, as investors worried that an end to the Fed's "quantitative easing" would mean higher long-term interest rates, which could crimp demand for new homes.

PulteGroup's stock has fallen by 36 per cent since May. The iShares U.S. Home Construction ETF is flat on a year that began with so much promise.

"The guys who invested early ran the shares up and then with the headwinds from interest rates, started selling them off," said David Williams, an equity analyst at Williams Financial Group in Dallas, Tex. "It's all very much predicated on quantitative easing tapering."

As in Canada, the prospect of slowing monetary stimulus is increasing the cost of financing home purchases in the United States, where the rate on a benchmark 30-year mortgage has risen by more than one-third in three months to 4.6 per cent. Higher rates raise the cost of buying new homes and refinancing existing ones, thus reducing demand.

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But mortgage rates are still low and average home prices remain far below their precash peaks, meaning that affordability is still high in the United States by any standard. "This is still one of the cheapest and best buying opportunities in the U.S. in a generation," said Eric Lascelles, chief economist at RBC Global Asset Management.

Granted, the housing market itself has sent some mixed signals of late. New home sales fell by 13.4 per cent in July, the U.S. Commerce Department announced last week. "But I doubt that correction is a statement that the housing boom is over," Mr. Lascelles said. On the contrary, the housing recovery is just getting under way, despite the accelerated boom-and-bust cycle that has already unfolded this year, Mr. Williams said. "What we're seeing is a short-term pause."

Home builders' stocks will gyrate with each new round of speculation about when the Fed will begin to taper stimulus, but ultimately, demographic and economic fundamentals will guide housing, he said.

Looking at the long-term trends, he believes the battered sector is now full of cheap stocks. "We see value all around this space." His top picks are D.R. Horton, The Ryland Group and Meritage Homes, which, he said, have best managed their margins.

For his part, Mr. Snow cautions investors not to expect a steady ride up. He thinks that demand for U.S. housing is being supported by hedge funds and institutional investors that want to buy homes to tap into their rental potential. "There's certainly a lot of money that wants to go into housing, but I question whether it's real Americans or just big institutions. I think we need some clarity and until we get that we'll have volatility."

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About the Author
Investing reporter

Tim Shufelt joined the Globe and Mail in August, 2013, primarily to cover investments for Report on Business. Prior to the Globe, he worked as a staff writer at Canadian Business magazine, a business reporter at the Financial Post, and covered city news and courts for the Ottawa Citizen. More

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