Goldman Looks For A Housing Recovery: Which Homebuilders To Buy?

|
Includes: DHI, GS, KBH, LEN, MDC, NVR, PHM, RYL, TOL
by: Bidness Etc

With mortgage rates hovering around record lows, housing starts rallying to four-year highs, an increase in residential construction spending, and augmenting home prices, we feel that the housing sector has gained traction and is one of the rare bright spots in the gloomy U.S. economy. Goldman Sachs (NYSE:GS) is also expecting a strong recovery in the housing sector, further corroborating our bullish thesis on homebuilders. Like GS, we continue to recommend KB Homes (NYSE:KBH) and Toll Brothers (NYSE:TOL) as potential candidates for taking long positions in. While GS is neutral on Lennar Corp (NYSE:LEN) and DR Horton (NYSE:DHI), we are also bullish on these stocks because of an increase in their number of new orders and quarterly backlogs, coupled with a decrease in their order cancellation rates.

LEN's new orders and quarterly backlogs have shown a year-over-year appreciation of 40% and 61% respectively, and a quarter-over-quarter decrease in order cancellation rate of 2%. Likewise, DHI's new orders and quarterly backlogs have increased by 19% and 17% respectively, while its cancellation rate dropped by 4%. DHI will report its 3Q earnings on Friday, July 27.

LEN

TOL

DHI

KBH

Increase in # of new orders (% YoY)

40%

47%

19%

3%

Increase in Quarterly backlogs (% YoY)

61%

37%

17%

22%

Decrease in order Cancellation rate (% QoQ)

2%

3.80%

4%

10%

Click to enlarge

In a client note yesterday, GS upgraded its view on the housing sector from Neutral to Attractive, as a result of its "Housing's Long List of Positives." The key components of that list were:

The analysts added MDC Holdings Inc. (NYSE:MDC) to Goldman Sachs' "Conviction Buy List," upgraded KB Homes and Ryland Group Inc. (NYSE:RYL) from neutral to buy and from sell to neutral respectively, and demoted NVR Inc. (NYSE:NVR) from neutral to sell. Toll Brothers and Pulte Group Inc. (NYSE:PHM) remained a buy, while the firm was neutral on all other homebuilders.

The following table summarizes some important valuation ratios for four of these homebuilders: LEN, TOL, DHI, and KBH.

LEN

TOL

DHI

KBH

Forward P/E (1 year)

21.87

32.32

20.51

203.2

PEG Ratio (5 year expected)

1.9

2.86

5.53

-2.57

Price / Book (MRQ)

1.84

1.98

2.25

2.12

Dividend Yield

0.50%

N/A

0.80%

1.00%

Click to enlarge

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.