6 Reasons to Short Housing Stocks

by: Mark Hines

The steady stream of negative news has continued to flow from the homebuilder industry over the last several weeks, yet enigmatically stock prices have risen (perhaps due to short squeeze buying or overly anxious bottom callers). Regardless, the fact remains that the homebuilders are in big trouble.

Let's review some of the facts...

First of all, homebuilders' earnings are falling like knives. For example Ryland Group (NYSE:RYL) reported negative earnings on 1/23, and missed analyst estimates by a huge amount. On 1/30, Centex (CTX) also reported negative earnings and also missed analyst expectations by a huge amount. Over the next week, we will hear from D.R. Horton (NYSE:DHI), Pulte Homes (NYSE:PHM), and others, and I won't be surprised to hear more very negative news.

Secondly, homebuilder economic data continues to deteriorate. For example, new home sales for December 2007 was 604,000 (well below the consensus estimate of 645,000), and it represented the worst full year decline since the government started tracking this data. Also, the median price of a new home is off 10.4% since last year. Further, don't be fooled by dropping inventories. Some analysts will point to reducing inventories as a sign that things are getting better. Inventories have fallen from 535,000 a year ago, to 495,000. However, sales are dropping faster than inventories, and the more relevant metric is months supply at current selling rates which has increased from 6.2 a year ago, to 9.6 last month.

Thirdly, homebuilder executives are selling their own stock . For example, the chairman, chief executive and president of homebuilder Ryland Group just excercised opitons for 80,000 shares of common stock and then turned right around and sold the shares the same day.

Fourth, rating agencies have been cutting homebuilder credit ratings to junk status. For example, Moody's recently cut D.R. Horton and Ryland to junk status.

Fifth, unlike financial institutions plagued by subprime asset woes, I don't see anyone "bailing out" the homebuilders. There really is no reason NOT to let them go bankrupt. Unlike subprime securities which are a significant portion of the worldwide economy, homebuilder stocks are barely a blip on the radar screen, and there really is no strong incentive for the government to bail them out. Further, I don't see any incentive for private sector investors to bail out homebuilders anytime soon considering that revenues continue to deteriorate.

Sixth, based on the trading range over the last twelve months, it appears to be time for homebuilders to bounce off the upper resistance level and continue their downward trend.

Overall, I don't see much upside potential for these stocks anytime soon. I can't imagine a sudden flood of buyers drying up the excess inventory, and bringing down the months supply. Also, I don't see home prices suddenly shooting up. Perhaps a big Fed rate cut could drive the stock prices up, but this would only be temporary and it wouldn't resolve the underlying homebuilder problems. In fact, I imagine it won't be until well after a few of the homebuilders go out of business that the survivors will gain market share and begin some kind of a recovery (perhaps 2009 at the earliest). In the meantime, the whole industry will continue to flounder.