Homebuilders: Updated Returns Across Shifting Sector Fundamentals

Excerpt from Footnotes and Flashbacks: Week Ending April 2, 2023

The chart below lines up the homebuilders in descending order of total returns for 1Q23. All of the companies noted outperformed the S&P 500. The ability of the builders to navigate this market has been demonstrated already and will be closely watched as the peak selling season of spring kicks into gear. Volumes and prices will decline, but most builders have shown their ability to generate respectable margins at lower volumes. That is supported by the guidance color from the builders and looking back at past margins. That is what the equity market is pricing in the above chart.

From a narrower perspective of mortgage rates and affordability in housing, the half full story line on 6% mortgage rate handles (detailed earlier in the MACRO section) is that 6% mortgages are old territory. Such mortgage rates were a feature of the housing boom of the pre-crisis years in 2005-2006. Wages are rising in 2022-2023 and there are vastly more bodies employed today. Jobs matter and the demographic need is a tailwind for demand. That combination of factors (jobs and wages) takes some of the edge off the builders risks ahead.

The willingness of a buyer of a new or existing home to take on a higher cost mortgage for later refinancing is not a simple handicapping exercise. Getting a potential home purchase executed in a given area at a given price is a personal decision that could include priorities for buying a home in a given location. A yield curve forecast is not always the main event for a homebuyer. If rates go down, you can eventually refinance.  If they go higher, you might be glad you pulled the trigger when you did.

One question will revolve around how much prices will need to decline to get transaction volume higher and instill more confidence in potential home seller and get them more inclined to sell into a market like the one today. One barrier is the number of sellers sitting on 3% handle mortgages on the property to be sold and the mortgage rate they will see on a “move up” purchase. More existing home sales could bolster the inventory of choices for buyers but also would compete with newly built homes. For now, new homes have the edge since existing homes are still down materially (see Existing Home Sales: The Sun Will Come Out…When? 3-21-23).