With Mortgage Rates At Decade Highs, What’s The Outlook Like For Housing Stocks?

Our theme of Housing Stocks, which includes the stocks of home builders, building products companies, and home improvement players, has declined by about 32% year-to-date, considerably underperforming the S&P 500, which remains down by about 16% over the same period.

Now the fundamentals of the housing market have remained quite solid thus far, with demand remaining strong, given the strong labor market, rising wages, and demand for larger homes following the Covid-19 pandemic. Over March, the most recent month for which data is available, median sales prices for new homes stood at $436,700, up from $359,600 a year ago. Construction activity has also picked up a bit. However, the markets don’t seem too optimistic that this momentum will last, leading to a big sell-off in housing stocks this year. With inflation surging, the Federal Reserve has turned increasingly hawkish, raising short-term interest rates twice over the last two months or so, and more rate hikes to the tune of 0.50% are expected in the coming quarters, and this is expected to put the brakes on economic growth. The average rate on a 30-year fixed-rate mortgage in the US has also risen to a decade high of 5.3%, up from just about 3% at the beginning of the year. This could make it more expensive for homebuyers to finance their purchases, crimping housing demand and pricing to an extent.

The low valuations of some of the top homebuilder stocks might also be pointing to weakness going forward. For example, DR Horton and Lennar
LEN
trade at less than 5x consensus 2022 earnings, despite consensus revenue growth rates for this year standing at a healthy 25% or more for both companies. Cyclical stocks often tend to have low multiples when investors expect that the industry is peaking, and this is probably what is happening with housing names, as well, at the moment.

Within our theme, Floor and Decor Holdings has been the weakest performer, with its stock declining by about 45% year-to-date. On the other side, KB Home
KBH
a Los Angeles-based home builder that focuses on homes for first-time homebuyers, has fared relatively better than the other names in the theme, with its stock falling by about 22% year-to-date.

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