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The home builder confidence number “jumped” today – or so said the headlines – moving from 13 to 16 (out of 100). The headlines did not reveal that sentiment is positive when the number is above 50.

The Street is of two minds about the homebuilders and this was clear as the sector sat out the recent rally. Traders should be of one mind – they are going down again, as companies, even if the stocks hold up for a while. When the housing market fails to respond next spring, these stocks will take a tremendous hit and one or more large builders will go into receivership as credit is cut off. The Street is beginning to anticipate these problems, hence the lack of upward movement in these stocks.

Am I too pessimistic about housing? Hardly.

  • Current inventory plus foreclosures in the next 1-36 months, not to mention people throwing in the towel an selling their homes at any price is a huge number – some say 7.5 million, others say eleven million. I see foreclosures between 6 and 7 million, minimum, and even the lower end of the range means too much supply through 2013.
  • Current demand is weak and will get weaker as unemployment climbs. With one fourth of Americans having a credit score below 600, and one fourth of Americans holding a mortgage owing more than their home is worth, and one fifth of Americans out of work or working less than they want to, the ability and desire to buy a home is a shadow of what it was the years ago. Also, l in 2004-2006, when the home building industry was on fire, at least 40% of demand was for second homes. Ain’t no second home market right now – this is a cash market, mortgages are unattainable.
  • Credit standards are so tight and credit availability so low many people who may want to buy cannot. The securitization market is dead – and I believe it will be dead for several years outside of Freddie and Fannie, the current underwriters or guarantors of 97% of all new mortgages. Funding for the FHA and the ceiling on holdings for Freddie and Fannie are going to be reduced with the Republican takeover of the House – resulting in even less mortgage money for the marketplace.

The bottom line – from a peak of 1.6 million units, current sales of less than 300,000 units per annum may bump a bit up but not enough to produce real earning power for this sector. If you want to short them, use puts and look for weak balance sheets and bad charts, and you have a lot to choose from – start looking at Pulte Homes (NYSE:PHM), KB Home (NYSE:KBH) and Hovnanian (NYSE:HOV).

Disclosure: None

Source: Homebuilders: Going, Going...