Back to Part 3
Where you build is as important as what you build
Most homebuilders are geographically diversified, but most have areas they focus on. If a homebuilder is in a hot market, like Texas or California, they’ll experience faster growth than someone focused on the less active markets like the Midwest or the Northeast. When you look at a builder, look to see what percentage of their revenues comes from different geographic segments.Right now, the hot markets are the ones that were hit the hardest during the real estate bust—places like Phoenix, San Diego, Las Vegas, and San Francisco. Many of these places have been experiencing 20%-plus home price appreciation. Inventory is extremely tight, as professional investors have been buying up properties for rentals. This has created a perfect set of circumstances for the builders—high demand and almost no competition from existing homes. Unsurprisingly, the bigger the West Coast exposure, the faster the growth. Names with high West Coast exposure would be Standard Pacific (SPF) and Lennar (LEN).
There are several general segments of the market: the first-time homebuyer, the move-up buyer, the second move-up buyer, active adult communities, urban, and luxury. Most builders address several segments, but most have a concentration in one segment. The first-time homebuyer has been more or less absent from the market, as they’re struggling with a high student loan burden and a difficult job market.The luxury end of the market has been doing well. When you think luxury, think Toll Brothers (TOL). The actions of the Fed have done a lot to boost the wealth of those who already own assets through quantitative easing. The high end has exposure to the S&P 500 at record highs, as well as bond portfolios at lofty levels.Due to low household formation numbers over the last six years or so, there’s a tremendous amount of pent-up demand for starter homes. While luxury is hot, as the economy recovers, the builders that cater to the first-time homebuyer will benefit. Examples of these types of builders are Ryland (RYL) and Meritage (MTH).
This analysis continues in How to think about upcoming homebuilder earnings (Part 5).
More From Market Realist
- Mortgage rates tick down after hitting levels not seen since early 2011
- What exactly is quantitative easing? Part 3
- What exactly is quantitative easing? Part 1