By Rom Badilla, CFA and TJ Kim
As the recovery slowly finds a firm foothold in the U.S. housing market, US homebuilders began to emerge as one of the best performing sectors in 2012. Amid a relatively steady growth seen from the recent indicators, coupled with the Fed's open-ended MBS purchases under QE 3, high-beta credits seem attractive investment items as cash flows from the bonds may not be as volatile as what the credit ratings suggest.
In this report, Cross Asset Research Team, Vincent Foley, Michael Gapen and Cedric Morris from Barclays recommend Hovnanian Enterprises, Caterpillar and Standard Pacific.
Hovnanian Enterprises, Inc. (HOV) is a U.S. real estate company that provides services in home design, construction and sales. The firm builds about 14,600 houses a year with base prices from $46,000 to $2,350,000 across 20 different states. In 2011, the company generated revenue of $1.135billion.
The capital structure changes were a significant positive for the company, as annual interest expense declined approximately $23mn due to the lower coupon first-lien (7.25%) and second-lien (9.125%) securities. The lower interest expense will accelerate the company's return to profitability, which now may occur in 1H13. The transactions also extended the company's 2016 debt maturity by four years, to 2020. Following the completion of the tender (and redemption of the bonds that were not tendered), Hovnanian Enterprises will have much more manageable maturities through 2016, the largest being $131mn in January 2016. In addition to these company-specific transactions, we expect Hovnanian Enterprises' operations to benefit from the continued improvement in housing demand. Future land banking transactions with GSO Capital Partners will also provide Hovnanian Enterprises with the liquidity it needs to participate in the housing recovery.
Hovnanian Enterprises, Inc. bond pays a 8.625% coupon, semi-annually and pays final principal at the maturity date of January 15, 201 (CUSIP# 442488BA9) These senior notes are currently being offered at a dollar price of $95.00 which translates to a yield of 10.095%. In addition, this bond is should be fairly liquid due to its deal size of $1.21 billion. Bonds can be sold with little concession relative to the offered side.
The bond is non-callable and is rated CC by Standard & Poor's.
Standard Pacific Corp. (SPF) is the 12th largest homebuilder based in Irvine, California. Having built over 113,00 houses, this publicly traded company develops both single-family and multi-family homes across major metropolitan areas. The firm has roughly 700 employees and a revenue size of $900 million.
The firm's recent operational improvement and fundamental growth in the housing industry will boost the value of the company. Over the past year, the company's order has expanded by 32% on a year over year basis. Moreover, the company issued $253 million of convertible debt in August. There is high expectation for improvements in the company's balance sheet and liquidity.
Standard Pacific Corp features a bond that pays a fixed semi-annual coupon of 4.759% and matures in May 15, 2018 (CUSIP# 85375CAX9). The senior notes have a make whole call and can be bought at a dollar price of $117.527 for a yield of 4.759%. These once 8-Year bonds were issued in April 2010 and have a deal size of $575 million. Because of this, the deal is large enough where liquidity is ample in the market place. These bonds can be sold at a yield of 5.19%. The bond is rated B by Standard & Poor's.
Caterpillar Inc. (CAT) is a U.S. corporation involved in every aspect of marketing homes, including design, construction and sales. The company is also the largest manufacturer of construction and mining equipment in the world. The company has a revenue size of $60 billion and is publicly traded on the NYSE and as part of the Dow Jones Industrial Average and S&P 500 components.
Caterpillar, a global construction machinery manufacturer, is rated mid-single-A (A2/A/A), is highly profitable (FY12 Street Consensus EBITDA: $11.8bn), and currently expects revenue in 2015 to reach $80-100bn.
The Caterpillar bond featured here pays a 7.9% coupon, semi-annually and pays final principal at the maturity date of December 15, 2018 (CUSIP# 149123BQ3). These senior notes are currently being offered at a dollar price of $137.099 which translates to a yield of 1.56%. In addition, this bond should be fairly liquid due to its deal size of $0.9 billion. Bonds can be sold with little concession relative to the offered side. These bonds can be sold currently at a yield of 1.7% in the secondary market.
All of the aforementioned bonds were highlighted with dollar prices in mind. These bonds were chosen for its closest proximity to par which led to a concession in the overall yield. So if you are less sensitive to dollar prices and can pay well above par, better value can be found in terms of the yield to maturity.
Furthermore, keep in mind that corporate bonds trade over-the-counter. So, prices and yields can vary depending on the broker you use. The best suggestion to use is a broker that offers the most visibility and price transparency for the corporate bond market.
Finally and as always, every bond investor should perform their own due diligence when making their investment decisions.