Amidst the ebb and flow of the ever-demanding housing market, existing home sales have experienced a dip for the third consecutive month in May, signaling the persistence of affordability constraints that have cast a shadow over this year’s crucial spring selling season. In a notable downturn, sales of new single-family homes in the United States plummeted by 11.3% sequentially in May 2024.
The spring selling season, typically the prime time for home sellers, commences in March and extends through May-June. This temporal window owes its significance to the onset of warmer weather post a frosty winter, coupled with the proclivity of buyers to relocate before the upcoming school year commences. Conversely, the winter months usually see a lull in home building activities due to excessively wet conditions in the south and severe cold in the north.
Challenges and Setbacks
Renowned industry ETFs such as SPDR S&P Homebuilders ETF (XHB) and iShares US Home Construction ETF (ITB) have taken a hit, shedding 8.3% and 11% of their value since April (as of Jun 27, 2024). The blame for this underperformance lies squarely on the shoulders of surging mortgage rates and escalating home prices, which have shackled home sales.
The Tale of Rising Prices
The persistent shortage of residential properties has maintained prices at elevated levels, with the median sales price soaring by 5.8% year over year. This surge has been fueled by an increase in sales of pricier homes and a surge in multiple offers. As underscored by NAR Chief Economist Lawrence Yun, the record-high home prices have further contributed to widening the gap between current homeowners and prospective first-time buyers.
Awaiting Recovery
While there has been a slight softening in mortgage rates, the Fed shows no immediate signs of lowering interest rates until later in the year. Yun believes this delay could be impeding the recovery of home sales, which have stagnated around a 4 million annualized rate over the past year. At the current sales pace, it would take a whopping 3.7 months to offload all available homes, marking the lengthiest stretch in four years.
Breakthroughs on the Horizon?
Yun remains optimistic that a surge in inventory will inject fresh vigor into home sales in the imminent future. The supply of existing homes on the market has surged by 18.5% year over year, totaling 1.28 million homes. Part of this spike can be attributed to homeowners who, after biding their time for a drop in mortgage rates, have now opted to list their properties. Yet, despite this upswing, the inventory remains below pre-pandemic levels, where mortgage rates were significantly lower.
Anticipating a Change in the Interest Rate Landscape
Following recent inflation and retail sales data releases, market sentiment favors a potential interest rate cut later this year. The CME FedWatch Tool places a 56.3% likelihood that the Fed might reduce rates to 5%-5.25% in September and a 42.1% probability of a rate adjustment to 4.75-5.00% by December.
Untapped Potential: Evaluating Valuations
The homebuilding industry currently boasts a forward price-to-earnings ratio of 8.22X, a stark contrast to the S&P 500 ETF’s P/E of 18.25X. Furthermore, the industry’s price-to-book ratio stands at a favorable 1.31, as opposed to the S&P 500 ETF’s ratio of 3.85. In addition, the industry’s price-to-sales ratio also tilts the scale in its favor at 0.92, compared to the lofty 2.70 held by the S&P 500 ETF.
Promising Financial Prospects
From a growth perspective, the sector’s projected EPS growth aligns closely with that of the S&P 500 ETF at 6.61%, while historical EPS growth for the industry outshines the S&P 500 ETF significantly – 33.61% vs. 9.87% respectively. The homebuilding sector also trumps the S&P 500 ETF in historical sales growth, with figures of 12.29% and 9.87% respectively. With a return on asset of 10.60 compared to S&P 500 ETF’s 6.84, and a return on investment of 14.41 versus 10.94, the homebuilding industry appears to be a strong contender for investors.
Paving the Path Forward
Amidst these fluctuations, the homebuilders industry, residing under the optimistic Zacks Building Products – Home Builders sector, continues to paint a hopeful trajectory. While the industry marked a paltry 0.2% gain this year, its abating valuation and potential relaxation in interest rates could potentially fuel a resurgence in the market as we move forward.
Quantitative analyses underline the monumental impact an industry’s positioning can have on stock appreciation. Industries ranked in the top 50% of Zacks’ listings have historically outperformed the bottom half by more than 2 to 1. Basking in the positive sheen of a buoyant sector, homebuilders sit snugly within Zacks’ Construction sector – currently reigning in the top 25% among roughly 16 sectors, with a notable 4.5% uptick observed in the year-to-date timeline.