Rising mortgage rates have caused a decline in refinancing and new loan originations, which should dampen the homebuilding industry’s growth. In addition, supply chain constraints are expected to muddy the industry’s near-term prospects. Therefore, we think homebuilding stocks D.H Horton (DHI), NVR Inc. (NVR), Toll Brothers (TOL), and KB Home (KBH) are best avoided now. Read on.
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Mortgage rates hit a three-month high last week as bond markets responded to the Federal Reserve’s statement that it would “soon” start reducing its fixed-asset purchases. The average contract interest rate jumped to 3.14% from 3.10% for 30-year fixed-rate mortgages, the highest rate since July.
Mortgage applications to purchase a home declined 13% year-over-year, negatively impacting companies operating in the housing business. Furthermore, impending Fed tapering moves, potential changes to monetary policy, and ongoing supply chain constraints are expected to dampen the homebuilding industry’s near-term prospects.
Given the industry’s gloomy growth prospects, we believe homebuilding stocks D.H Horton Inc. (DHI), NVR Inc. (NVR), Toll Brothers Inc. (TOL), and KB Home (KBH) could suffer a downtrend in the near term. So, these stocks are best avoided now.
D.H Horton Inc. (DHI)
DHI is a homebuilding company with operations in the United States. Under the brands Express Houses, Emerald Homes, and Freedom Homes, Fort Worth, Tex.-based DHI acquires and develops property and constructs and sells homes in 29 states and 88 markets. In addition, DHI builds and owns multi-family rental homes and residential real estates, such as ranch land and renovations, and oil and gas assets.
In July, DHI priced an underwritten public offering of $600 million of 1.3% senior notes due 2026. The company plans to use the offering’s proceeds for general corporate purposes.
For the nine months ended June 30, 2021, DHI’s net cash used in operating activities came in at $34.5 million. The company reported $829.6 million in net cash used in financing activities. Its cash and cash equivalents declined 35.6% year-over-year to $1.94 billion. Its net decrease in cash, cash equivalents, and restricted cash stood at $1.07 billion. The stock has declined more than 8% in price over the six months and roughly 9% over the past month.
DHI’s POWR ratings are consistent with this bleak outlook. The POWR Ratings are calculated by considering 118 distinct factors, with each factor weighted to an optimal degree.
DHI is rated D for Momentum, and C for Growth and Value. Within the C-rated Homebuilders industry, it is ranked #14 of 24 stocks.
To see additional POWR Ratings for Stability, Sentiment, and Quality for DHI, click here.
NVR Inc. (NVR)
NVR is a home builder based in Reston, Va. Homebuilding and Mortgage Banking are the company’s two business segments. It constructs and offers single-family detached homes, townhomes, and condominium buildings under the Ryan Homes, NVHomes, and Heartland Homes names.
In August, NVR’s board of directors approved a $500 million repurchase of its outstanding common stock. A share repurchase can lead to a decline in share prices on investors’ concerns that the business may not have other profitable opportunities for growth.
NVR’s cash and cash equivalents declined 4.3% year-over-year to $2.60 billion for the six months ended June 30, 2020. The stock has declined more than 4% in price over the past three months and about 4% over the past month.
NVR’s poor prospects are also apparent in its POWR Ratings. It also has a D grade for Value and Momentum, and a C for Growth. NVR is ranked #6 in the Homebuilders industry.
Click here to see the additional POWR Ratings for NVR (Stability, Quality, and Sentiment).
Toll Brothers Inc. (TOL)
Along with its subsidiaries, TOL in Horsham, Pa., designs, builds, markets, and arranges financing for a variety of detached and attached houses in luxury residential communities around the United States. The company operates through two segments: Traditional Home Building; and Urban Infill. In addition, TOL builds, owns, and manages golf courses and country clubs, develops, and sells property, and provides home automation and technology choices to homeowners.
In August, TOL acquired StoryBook Homes, a privately held homebuilder based in Las Vegas, Nevada. While this acquisition can help the company attain a strong market position in the Las Vegas housing market, it could require a significant cash outlay in the near term.
During the third quarter, ended June 30, 2021, TOL’s selling, general, and administrative expenses increased 20.9% year-over-year to $276.73 million. Its cash and cash equivalents declined 31% from their year-ago value to $946.09 million for the nine months ended June 30, 2021. Also, the stock’s price has retreated roughly 4% over the past six months and by more than 8% over the past month.
TOL’s weak fundamentals are reflected in its POWR ratings. The stock also has a D grade for Momentum, and a C for Growth and Value. In the Homebuilders industry, it is ranked #15.
In addition to the POWR Ratings grades I have just highlighted, one can see the TOLL rating for Sentiment, Stability, and Quality here.
KB Home (KBH)
KBH operates as a homebuilding company in the United States. West Coast; Southwest; Central; and Southeast are the four operating segments of the Los Angeles-based company. It caters primarily to first-time, first-move-up, second-move-up, and active adult homebuyers. In addition, the company offers financial services, such as insurance products and title services.
In its last reported quarter, the company’s deliveries were severely affected by ongoing industry-wide supply chain issues and labor shortages.
KBH’s cash and cash equivalents declined 48.6% year-over-year to $350.14 million for the nine months ended August 31, 2021. Its interest income fell 81.7% year-over-year to $144,000 for the three months ended August 31, 2021. In addition, the company’s land revenue came in at $248,000 for the quarter, versus $16.04 million in the prior-year period. The stock has declined close to 3% in price over the past year and roughly 18% over the past six months.
KBH’s POWR ratings are consistent with this bleak outlook. It has a D grade for Momentum, Quality, and Sentiment. The stock is ranked #21 in the Homebuilders industry.
Beyond the POWR Ratings grades I have just highlighted, one can see the KBH ratings for Value, Stability, and Growth.
DHI shares were trading at $84.84 per share on Wednesday morning, up $1.12 (+1.34%). Year-to-date, DHI has gained 23.90%, versus a 16.96% rise in the benchmark S&P 500 index during the same period.
About the Author: Pragya Pandey
Pragya is an equity research analyst and financial journalist with a passion for investing. In college she majored in finance and is currently pursuing the CFA program and is a Level II candidate.
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