8-Month High Builders' Confidence In November: Key Picks

Confidence among homebuilders rose in November to its highest reading in eight months and the second highest since the recession (July 2005), according to the Housing Market Index by the National Association of Home Builders (NAHB) and Wells Fargo (NYSE:WFC).

So are the builders shaking off worries associated with the Republican tax plan? At least the latest reading hints at renewed strength in the sector.

NAHB Chairman Granger MacDonald said, “November’s builder confidence reading is close to a post-recession high — a strong indicator that the housing market continues to grow steadily.”

Pleasing Prospects

The index of home builder sentiment rose two points in November to 70 from the previous month. This followed after a rise of four points in October. It is important to note that the index dipped three points in September from August. However, it still remained at a confident level of 64 points as any reading above 50 is considered positive.

This index primarily reflects builders’ perceptions of current single-family home sales and sales expectations for the next six months. Notably, two of the total three HMI components gained in November.

Of the index's three components, current sales conditions rose two points to 77. Buyer traffic increased two points to 50. This is the first time in six months that this component has been in the positive territory. However, sales prediction over the next six months dropped one point to 77.

The U.S. housing/homebuilding outlook remains upbeat for the balance of 2017 and 2018 courtesy of solid economic growth and tight inventory. Consistent job growth along with seemingly high homebuilders’ confidence is adding to the momentum.

Per the Commerce Department’s first estimate, the U.S. economy expanded at a pace of 3% in the third quarter. This represents a marginal decline from the annualized growth rate of 3.1% in the April to June period, the strongest performance since the first quarter of 2015. Moreover, the latest figure represents the best back-to-back quarters of at least 3% growth since 2014.

Again, the U.S. economy rebounded from the hurricanes and added 261,000 jobs, the best performance of the Trump administration. Unemployment fell to 4.1%, the lowest since December 2000.

Hence, with these economic fundamentals in place, the overall homebuilding picture is pretty compelling as we close out 2017.

Proposed Republican Tax Bill Pose a Risk

Apart from concerns over chances of a series of interest rate hikes by the Federal Reserve, homebuilders continue to struggle with a growing labor shortage, limited land availability, higher material costs and a constrained mortgage environment. These are restricting homebuilders to respond to growing demand.

However, they were optimistic post the 2016 presidential election with expectations of easier regulations, which have been adding to builder costs. The recent House Republican tax bill came as a major blow as it will eliminate one of the benefits of ownership for many would-be homebuyers.

The measure would limit the mortgage-interest deduction on newly purchased homes at $500,000. This is quite a dramatic shift from the current cap of $1 million. The proposed capping of the mortgage-interest deduction could diminish the benefit of the deduction outside of the costly housing markets. The National Association of Realtors said the memo “appears to confirm many of our biggest concerns.”

Nonetheless, the latest spike in builders’ confidence reassures the industry’s strength defying the above-mentioned woes. The Zacks Homebuilding Industry has outperformed the broader market (S&P 500) so far this year despite dampeners. The industry has gained more than 56%, compared with the S&P 500 index’s 15.8% increase. Notably, the homebuilding industry ranks among the top 28% of all the Zacks industries. Housing got off to a solid start this year and the trend is expected to continue through next year, courtesy of healthy demand.

Stocks to Bet On

Adding some housing stocks to your portfolio looks like a smart move at this point, as there are plenty of reasons to be optimistic about the broader housing sector over both the short and the long terms. However, picking winning stocks may be difficult.

With the help of the Zacks Stock Screener, we have zeroed in on four stocks that have a Zacks Rank #1 (Strong Buy) or 2 (Buy) and other relevant metrics. A favorable Zacks Rank indicates that these stocks have been witnessing positive estimate revisions, which generally translate into rapid price appreciation. You can see the complete list of today’s Zacks #1 Rank stocks here.

Based in Los Angeles, CA, KB Home (NYSE:KBH) is a well-known homebuilder in the United States and one of the largest in the state.

Shares of KB Home returned 79.5% year to date, outperforming the industry’s gain of 56.7%. The company has formulated the right strategy to boost scale in existing geographic footprint, improve profitability per unit, generate higher operating margin and drive earnings, while simultaneously generating positive cash flow to invest in growth and debt reduction.

Additionally, KB Home has been witnessing an upward trend in earnings estimate revisions. Over the past 60 days, the Zacks Consensus Estimate for 2017 and 2018 earnings have increased 4.1% and 5.3%, respectively.

KB Home has a solid three-five year earnings per share growth rate of 19.5%. This earnings momentum is likely to continue in the near term, as reflected by the company’s projected EPS growth of 57.7% for the current year and 23% for the next year. Also, this Zacks Rank #1 company delivered a positive earnings surprise in each of the trailing four quarters, with an average beat of 12.7%.

NVR, Inc. (NYSE:NVR) is involved in the construction and sale of single-family detached homes, town homes and condominium buildings. The stock also sports a Zacks Rank #1 and has climbed more than 96% year to date.

The Zacks Consensus Estimate has increased 5.6% for 2017 and 8.6% for 2018, in the last 60 days.

The company is also expected to witness earnings growth of 41.3% for the current year and 13.9% for 2018. It has a solid three-five year earnings per share growth rate of 14.9%. The stock has a pretty good earnings track record having surpassed expectations in each of the trailing four quarters, with an average beat of 17.2%.

The stock’s rock-solid trailing 12-month return on equity (ROE) ratio of 38.2%, compared with the industry average of 10.6%, indicates that the company reinvests more efficiently compared to its peer group.

Irvine, CA-based homebuilder TRI Pointe Group, Inc. (NYSE:TPH) is engaged in construction, design and sale of single-family homes. The stock carries a Zacks Rank #2 and has climbed 53% so far, this year. TRI Pointe remains well positioned to outperform its peers through better absorptions and deliveries from the higher-margin California market.

The consensus estimate has increased 2.3% for the current year and 5.4% for 2018 in the last 60 days, reflecting optimism in the stock’s prospects.

The homebuilder’s current-quarter earnings are expected to increase 77.8% year over year, comfortably outpacing the industry’s average projected growth of 16.7%. The company’s EPS growth is expected to increase 12.5% for the current year and 14.9% for 2018.

Based in Horsham, PA, Toll Brothers, Inc. (NYSE:TOL) is focused on the luxury homes market. The stock has rallied more than 60% in the last year, outperforming the industry’s gain of 56.9%.

The company is also expected to witness earnings growth of 46% for the current fiscal year and 13.3% for the next. It has a three-five year earnings per share growth rate of 12.9%.

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Toll Brothers Inc. (TOL): Free Stock Analysis Report

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TRI Pointe Group, Inc. (TPH): Free Stock Analysis Report

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