The Fed’s decision to drop interest rates by half a percentage point on Wednesday spurred a broad rally on Thursday, but there are certain stocks that will benefit more than others from lower interest rates over time, including a stock Warren Buffett owns, Lennar Corp. (NYSE:LEN).
Lennar, a homebuilder, posted its fiscal third quarter earnings on Thursday, beating revenue and earnings estimates.
The company generated $9.4 billion in revenue in the quarter, up 8% year over year and well past consensus estimates of $9.16 billion. Net earnings came in at $1.16 billion for the quarter, up 5% from the same quarter a year ago, while earnings per share rose 10% to $4.26 per share. On an adjusted basis, Lennar generated $3.90 per share, which easily beat estimates of $3.64 per share.
Despite the strong report, Lennar stock was trading lower on Friday, but the stock price is up about 24% year-to-date. Here’s why this Warren Buffett stock should have some more to run.
Lower rates should increase demand
Lennar’s momentum in the third quarter coincides with mortgage rates slowly declining, from close to 7% for a 30-year fixed rate mortgage in July to around 6.5% in August.
That has provided Lennar with a lift, as new orders increased 5% in Q3 year over year to 20,587 homes. Further, 21,516 new homes were delivered in the quarter, meaning built, which is 16% higher than the same quarter a year ago. The rise in deliveries more than offset a 6% decline in the price of the average home delivered to $422,000. Overall, revenue from new homes was up 9% in the quarter.
However, gross margins on home sales were $2.0 billion, or 22.5%, in Q3, compared to $2.0 billion, or 24.4%, in the third quarter of 2023. Gross margins dropped primarily because revenue per square foot decreased while land costs increased, partially offset by a decrease in costs per square foot due to lower material costs.
After the Fed cut rates by 50 basis points on Wednesday, mortgage rates plummeted to around 6% this week, down 1.1 percentage point from a year ago. With a series of rates cuts expected over the next several years, Lennar should see home buying activity increase.
“This week, the Fed decreased interest rates which should start to enhance affordability and accelerate the already strong demand for both new and existing homes,” Stuart Miller, co-CEO and executive chairman of Lennar, said. “While strong demand, enabled by incentives and mortgage rate buydowns, has driven the new home market over the past two years, we fully expect an even stronger, and more broad-based demand cycle, as rates move lower. Lower rates and controlled inflation will likely boost confidence.”
Is Lennar stock a buy?
In the fiscal fourth quarter, Lennar expects deliveries to be in the 22,500 to 23,000 range, which would be about 6% higher than Q2 at the midpoint. New orders are projected to 19,000 to 19,300, which would be lower than Q2’s 20,587.
Also, this Warren Buffett stock, which was added to the Berkshire Hathaway (NYSE:BRKa) portfolio in 2022, has a backlog of 16,944 homes with a dollar value of $7.7 billion, down from a backlog of 21,321 homes, valued at $9.8 billion, in the same quarter a year ago.
The average sale price in Q4 is expected to tick up to $425,000, while the gross margin is anticipated to stay the same at 22.5%. Analysts projected the gross margin to be slightly higher, which may be why the stock was down on Friday.
But the dip may provide a good opportunity to jump on Lennar stock. The valuation is fairly cheap with a forward P/E of 11, and this dip makes it even more attractive.
Bank of America boosted Lennar’s price target to $190, while Keefe Bruyette recently bumped it up to $230 and Wells Fargo raised it to $205 per share. These targets suggest price increases anywhere from 4% to 26% over the next 12 months.
With its low valuation and some tailwinds provided by mortgage rates that should continue to move lower for the foreseeable future, Lennar stock has more room to run. And Warren Buffett’s seal of approval certainly does not hurt.