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New home sales fall as the spring selling season sees more winter

Brent Nyitray, CFA, MBA

February new home sales, as reported by the Census Bureau and the Department of Housing and Urban Development, decreased 3.3% from January

New home sales decreased to an annualized pace of 440,000—down 3.3% from January (which was revised down from an initial estimate of 468,000 to 455,000) and down 1.1% from a year ago. Activity picked up in the Midwest but fell everywhere else. Poor weather in the Northeast undoubtedly played a role. It’s important to understand that this number is an estimate, and these numbers are often revised several times. Investors should appreciate that these estimates can be volatile, and you shouldn’t read too much into any one specific number.

Restricted supply has been the theme of the U.S. housing market over the past year

At the end of February, there were 189,000 new homes for sale, representing a 5.2-month supply. The median time a new home has been on the market shrunk from nine months last summer to the current figure of five months. As professional investors have become major players in the real estate market, we’re seeing bidding wars for properties in the hardest-hit markets, like Phoenix, and even strong markets, like Washington, DC. For all the fears that a flood of properties would hit the market and drive down prices, the opposite problem has happened.

Prices are rising as luxury outperforms entry-level homes

The median sale price for a new home was $261,800, and the average price was $317,500. These numbers aren’t based on a repeat sales methodology, so you can’t project nationwide existing home prices from these figures. On balance, the jump in prices implies that more activity is happening at the high price points. We’ve seen virtually every homebuilder report double-digit increases in average selling prices. The NAHB has reported that the average size of a new home has increased 300 square feet from 2009 to today. So, while prices are rising, part of that increase has been due to the product mix. That said, the report showed that the sweet spot for new home sales has been in the $200,000-to-$299,000 range.

Homebuilder earnings were strong

Homebuilders like PulteGroup (PHM) and DR Horton (DHI) reported decent fourth quarter and full-year earnings, although the first-time homebuyer remains absent from the market. Reports noted particular strength in the West Coast, and also in the entry-level and first-time move-up sector. KB Home (KBH) and Lennar (LEN) recently announced first quarter earnings that showed that the increase in interest rates and home prices is keeping the first-time homebuyer on the sidelines. That said, homebuilder sentiment is close to all-time highs, and the earnings reports we have seen so far from the builders don’t suggest activity is beginning to wane. If anything, the improving economy is driving more demand. The spring selling season has just started, and we should get some color on how it’s shaping up when the rest of the builders report in about a month.

The Home Builder ETF (XHB) may be leveling off, but we’re still very, very early in the housing recovery. The first-time homebuyer has been absent due to tough credit conditions and a difficult labor market. As those circumstances change, a lot of pent-up demand will release, which should drive homebuilder earnings for quite some time.

To learn more about investing in homebuilders, see the Market Realist series Assessing KB Home’s earnings for the first quarter this year.

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