The upcoming construction sector earnings results are expected to benefit from economic growth, the labor market, higher demand, tighter inventories and rising home prices. These positive factors are reflected in the improving estimates picture for the sector ahead of the major earnings releases starting next week.
After the solid 3.1% economic growth in the in the July-September quarter, the world’s largest economy is expected to have advanced 3.3% in the fourth quarter of 2017, per the latest Atlanta Fed’s real-time Q4 GDP growth estimate.
This solid upbeat projection holds particularly true when one of the nation’s key economic drivers, i.e. construction activity, is gradually strengthening its footprint accompanied by a declining unemployment rate (4.1% in December 2017).
Construction Sector at a Glance
Overall, 2017 was a great year for the construction sector. The dynamic performance of the sector has been majorly buoyed by strong homebuilding activities and a rebounding U.S. economy. Spending on construction was up 4.2% year over year in the first 11 months of 2017, per the latest U.S. Census Bureau report. Although spending on government projects declined 3.4% during the period, homebuilding spending increased 6.6%.
The sector has seen a strong year primarily on the back of robust gains from homebuilding investments. Although challenges in the housing industry persist in the form of low supply levels/limited listings, adverse impact of hurricanes as well as rising prices, factors like strong consumer confidence, favorable demographics, pent-up demand, job gains and income growth are outweighing the headwinds facing the sector.
The latest data from the National Association of Realtors reveals that existing home sales for the month of November increased 5.6% to 5.81 million units in November to hit an 11-year high. Existing home sales, which account for 90% of home sales in the United States, surged 3.8% year over year in November.
Meanwhile, the confidence level among the nation’s homebuilders ended 2017 on a high note as the housing market index (HMI) was at 74 in December. This marks the highest reading since 1999.
Disruptions caused by the hurricanes and other natural disasters seemed to be somewhat short-lived as revealed from recent economic data reports. Again, builders seem to have shaken off worries related to the Republican tax plan, and believe that the business incentives in the plan are likely to offset the negatives.
A close look at the recently released financial numbers of the nation’s major homebuilders reveal the positive picture of this earnings season. KB Home (NYSE:KBH) ended fiscal 2017 on an impressive note based on solid housing fundamentals. The homebuilder surpassed expectations in fourth-quarter fiscal 2017 on both top and bottom lines.
Again, Lennar Corporation’s (NYSE:LEN) fourth-quarter fiscal 2017 adjusted earnings of $1.29 per share fell shy of the Zacks Consensus Estimate of $1.50 by 14% and decreased 1.5% from the year-ago level of $1.31. Nonetheless, total revenues of $3.79 billion beat the Zacks Consensus Estimate of $3.62 billion by 4.5%.
Majority of the Zacks broad sectors (13 out of 16) are expected to be in the positive territory in the final quarter of 2017. For the construction sector, as far as estimates are concerned, the overall picture is indeed rosy in this earnings season.
Per the latest Earnings Preview, the construction sector’s earnings are expected to increase 16.8% in the fourth quarter compared with 11.6% earnings growth witnessed in the third. Revenues too are expected to increase 10.5% (12.3% growth in Q3), while margins are expected at 0.4% (-0.1% in Q3).
In spite of the inventory woes and higher land/labor costs, it is a profitable strategy to zero in on a handful of construction stocks that are poised to beat earnings this quarter. An earnings beat would also pave the way for stock price appreciation.
Which Are the Right Picks?
Picking the right stock for your portfolio could appear to be a daunting task given the wide range of companies in the construction space. An easy way is to look at stocks that have a solid Zacks Rank accompanied by a favorable Earnings ESP. The combination of a favorable Zacks Rank #1 (Strong Buy), 2 (Buy) or 3 (Hold) with a positive Earnings ESP usually hints at an earnings beat.
Earnings ESP is our proprietary methodology for determining which stocks have the best chance to pull a surprise in their next earnings announcement. It shows the percentage difference between the Most Accurate estimate and the Zacks Consensus Estimate.
Our research shows that for stocks with this combination, the chances of a positive earnings surprise are as high as 70%.
For investors seeking to adopt this strategy, we have highlighted five construction stocks that may stand out this season.
Our first choice is D.R. Horton Inc (NYSE:DHI). This Texas-based, one of the leading national homebuilders, topped earnings estimates in each of the trailing four quarters with an average beat of 5.01%. It looks poised to beat expectations in the to-be-reported quarter as well. The company carries a Zacks Rank #1 and has an Earnings ESP of +4.04%. The Zacks Consensus Estimate is pegged at 63 cents per share.
D.R. Horton is scheduled to report first-quarter of fiscal 2018 results on Jan 31 before market open.
Secondly, we picked we have picked an integrated forest products company with substantial timber resources Potlatch Corporation (NASDAQ:PCH). The company topped earnings estimates in each of the trailing four quarters with an average beat of 43.58%. It looks poised to beat expectations in the fourth quarter as well. The company carries a Zacks Rank #2 and has an Earnings ESP of +0.43%. The Zacks Consensus Estimate is pegged at 59 cents per share.
Potlatch is scheduled to report fourth-quarter results on Jan 29 after the closing bell.
Thirdly, Louisiana-Pacific Corporation (NYSE:LPX), a leading manufacturer of building materials and engineered wood products in the United States, Canada, Chile and Brazil, also seems to be a solid bet. The company surpassed estimates in two of the trailing four quarters, with an average positive earnings surprise of 3.98%.
For the upcoming release, Louisiana-Pacific has a Zacks Rank #2 along with an Earnings ESP +6.9%. The Zacks Consensus Estimate for the to-be-reported quarter is pegged at 58 cents per share.
The company is expected to report fourth-quarter 2017 results on Feb 14.
Our fourth choice is a Denver, CO-based homebuilder M.D.C. Holdings, Inc. (NYSE:MDC) that engages in homebuilding and financial service businesses in the United States. Last quarter, the company delivered a solid positive earnings surprise of 103.51%. In fact, the company has surpassed estimates in each of the trailing four quarters, with an average positive earnings surprise of 35.22%.
For the upcoming release, M.D.C. Holdings has a Zacks Rank #3 along with an Earnings ESP +1.91%. The Zacks Consensus Estimate for the to-be-reported quarter is pegged at 66 cents per share.
M.D.C. Holdings will likely to announce fourth-quarter 2017 results on Feb 1, before the opening bell.
Lastly, we have picked Toll Brothers Inc (NYSE:TOL). The company builds an array of luxury residential single-family detached, attached home, master planned resort-style golf, and urban low-, mid-, and high-rise communities, principally on land it develops and improves. The company surpassed estimates in three of the trailing four quarters, with an average positive earnings surprise of 16%.
For the upcoming release, Toll Brothers has a Zacks Rank #3 along with an Earnings ESP +1.35%. The Zacks Consensus Estimate for the to-be-reported quarter is pegged at 49 cents per share.
The company is expected to report first-quarter of fiscal 2018 results on Feb 28.
With a recovering economy and solid job market, the critical question is to choose the right construction stocks before they release their earnings numbers.
A close look at the space for some outperformers, backed by a solid Zacks Rank and a positive Zacks Earnings ESP, could be a great idea for investors to tap into the optimism in the sector.
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