U.S. homebuilders’ earnings have been hit by rising mortgage rates in the latest quarter, but their shares are showing signs of recovering.
The S&P Composite 1500 Homebuilding index .SPCOMHOME has dropped 9.4 percent in October and 31.2 percent year-to-date, but the homebuilding stock index has recovered by 8.2 percent since Oct. 24.
The benchmark S&P 500 .SPX index lost 6.94 percent in October, its worst month since September 2011, but recovered by 2.1 percent since last Wednesday.
On Wednesday last week, Wall Street stocks were hit by U.S. Commerce Department data showing September sales of new single-family homes fell to a near two-year low.
The average U.S. 30-year mortgage rate rose to 5.11 percent the week of Oct. 19, its highest level since February 2011, the Mortgage Bankers Association said.
Since then, mortgage rates have come down again as the 10-year U.S. Treasury yield, on which they are based, has backed off from its highs earlier in the month.
The industry’s outlook has also turned less dire as the earnings season has progressed.
In early October, D.R. Horton Inc (DHI.N) and Lennar Corp (LEN.N), lowered their financial forecasts for the fourth quarter of 2018, but others, including PulteGroup Inc (PHM.N) and Meritage Homes Corp (MTH.N), have given more upbeat outlooks for 2019.
Overall home builder companies have framed the recent slowdown in sales as a momentary pause rather than the beginning of a sustained downturn.
“A significant slowdown could be a warning sign, but that usually happens when people are afraid of the economy and of losing jobs,” said J.J. Kinahan, chief market strategist at TD Ameritrade in Chicago. “There’s no evidence of that yet.”
Several small-capitalization homebuilders, including LGI Homes Inc (LGIH.O) and Century Communities Inc (CCS.N), are scheduled to report profit results in the next two weeks. D.R. Horton, the largest U.S. homebuilder by market capitalization, is set to report results on Nov. 8.
Homebuilders’ shares have also been pressured by rising home prices.
Prices had already been elevated as land scarcity and rising materials and labor costs helped to cap the supply of new homes.
In post-earnings conference calls, homebuilders have noted measures they have taken to address anxieties over rising prices.
Several, including PulteGroup and Tri Pointe Group Inc (TPH.N), are offering financing incentives. Others, such as Meritage Homes and William Lyon Homes (WLH.N), are placing more emphasis on entry-level homes, which are widely seen by analysts and investors as the most robust segment of the housing market.
Interest from potential buyers has remained strong even though sales have fallen. PulteGroup and Meritage Homes both cited year-over-year traffic increases.
“Interest is still good,” said Jonathan Woloshin, U.S. head of real estate at UBS Global Wealth Management’s chief investment office in New York. “People are just priced out.”
The climb in home prices may be slowing down though.
On Tuesday, the S&P CoreLogic Case-Shiller U.S. National Home Price NSA index indicated a 5.8-percent year-over-year gain in August, the first time in a year home prices had risen less than 6.0 percent.
As a result, some market watchers say homebuilders’ shares may be near a trough. The forward price-to-earnings ratio for the S&P Composite 1500 Homebuilding index is 8.5, down from 15.9 a year ago, according to Refinitiv data.
“The outlook doesn’t appear as draconian as the market has priced in,” said Jack Micenko, an analyst at Susquehanna Financial Group in New York.
Still, the Federal Reserve is widely expected to raise interest rates in December and in early 2019, which would push up Treasury yields and mortgage rates. While homebuilding stocks may be closer to ending their freefall, reaching the bottom could take several months.
“It will take some time for them to shake out,” said Dryden Pence, chief investment officer at Pence Wealth Management in Newport Beach, California. “When the Fed stops raising rates, that’s when stability comes back into the housing market.”