In a follow up to my article KB Home: The Recovery May Be More Robust Than You Think, I examine the Lennar (LEN) conference call for more clues on what it can tell us about the overall housing recovery and if it's possibly stronger and more widespread than people think. It is clearly the case with KB Home (KBH), where my main takeaway was summarized in the middle of the article:
33 different cities across the country, each with its own unique demographic, economy, and culture are all seeing the same thing. This is not local. This is widespread. It's music to my ears to hear:
- "a lot of price movement upwards"
- "ripple to other areas adjacent"
- "and so on and so on"
Translation: the recovery is everywhere, and you can't escape it.
Now I turn to Lennar to see if management shares the same sentiments as KBH and what other clues it may offer. Early in the call, CEO Stuart A. Miller stated:
So to begin, let me make 4 macro points about the housing market recovery. First, housing is recovering, and the recovery is consistent, healthy and growing stronger. We saw from yesterday's housing starts and permits numbers that the recovery in housing is continuing to progress in both multifamily and single-family products. This data confirms what we've seen in the field for some time.
"We've seen in the field for some times" tells me two things. First the obvious: LEN is exhibiting a similar positive stance on the housing outlook as KBH. Second is that LEN is basically saying that it has insight into the state of the housing market well ahead of others, long before the official numbers get published. This means we'd be wise to at least hear what LEN has to say. Next:
There has been an underproduction of housing during the downturn, as we produced as few as 550,000 homes per year during the downturn of both multi- and for-sale product. This is very close to the rate at which homes become obsolete. So for some of those years, we had essentially no net production against the normalized household formation rate of some 1.25 million annually. This shortfall will have to be made up, and the market is beginning to move in that direction.
I hadn't previously considered this. I've always figured there to be a shortfall due to population growth, but additionally there's an annual amount of homes that need to be built just to keep up with obsolete ones lost. This point of LEN's is a good one and suggests the shortfall in inventory may be deeper than most people, including myself, had realized. Next:
Second point, national numbers continue to be tricky to interpret. On Monday, the U.S. homebuilder confidence number showed a decline, which suggested that the recovery might be stalling or might not be as robust as expected. Against that backdrop, yesterday's numbers confirmed continued recovery.
In our view, the conflict in the information rests in the fact that the homebuilder confidence survey is primarily a polling of smaller private builders. Their lowered confidence reflects their limited access to capital and, in turn, a limited access to land. The larger builders have had access to capital and land while the market was depressed. And since then, land prices have moved significantly. Late participants in the land market are having difficulty participating in the market recovery and are not able to solve to acceptable margins in their underwriting.
The lack of builder confidence against the backdrop of increased starts and permits supports our thesis that larger builders will increase market share while also participating in the broader market recovery. Land positions owned in the context of housing recovery is driving homebuilder confidence. I suspect that a builder confidence survey of the larger, well-capitalized builders would reveal substantially higher confidence.
This point speaks for itself. The "vote" from homebuilders does not appear to be weighted according to homebuilder size, so tiny homebuilders who have personal credit problems would get equal vote versus a large one such as Toll Brothers (TOL) and make the data report look artificially weak when, in reality, homebuilders like TOL, KBH, and LEN are seeing robust demand far greater than the data would suggest.
Fast forward further along the call:
Finally, resurgent demand for homes is constrained by the mortgage market currently, which has constrained demand with an overly restrictive underwriting criteria. Slowly, however, the landscape is improving as banks are beginning to reconsider their credit underwriting overlays and open the doors to more approvals.
This is great information to hear from LEN management directly as it would know the makeup of who is purchasing its homes faster than the rest of the market. The lack of credit available for mortgages as we all know is part of the reason after 2008 the housing slumped stayed slumped for so long. Relaxing of underwriting tends to snowball (as we've seen over the last many decades).
LEN does however end its Macro optimism on a more cautious tone:
While there have been and still are economic and political uncertainties ahead, we feel that this housing recovery is fundamentally based and driven by a long-term demographic need for housing. We believe we are still in the beginning stages of a recovery that will be sustained for several more years.
I'll add that Lennar and KB Home could be wrong or something new and dramatic happens that upsets and changes the direction of the recovery, but there's no question at least at the moment that the recovery is fierce, widespread, and more robust than people think it is. The only question is how to invest in it. KBH, TOL and/or LEN may be excellent places to start.