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| One Big Builder’s View of the Market Gives Me Confidence |
| Written by Jonathan Smoke | |
| 06.09.2008 | |
Discuss this article on the forums. (0 posts)  The big builders have been keeping quiet this year regarding any views of the housing market reaching a bottom and turning around. Their stocks reflect continued negative sentiment—in midday trading today XHB, the S&P SPDR for Homebuilders, was down over 3% to 18.202. While up from its all time low of 16.10 in January, it has given up most of its post March gains having reached 23.66 on April 2.XHB is worth less than half of its price one year ago. Today, Moody’s downgraded the credit ratings of most of the big public builders, including D.R. Horton Inc. (DHI), Pulte Homes Inc. (PHM), Ryland Group Inc. (RYL), KB Home (KBH), Centex Corp. (CTX), and Lennar Corp. (LEN). That just might be a bullish signal, coming from a rating agency that so accurately helped investors avoid subprime risk. My view of home builders is based on analyzing what I can about their markets, their strategies, and the quality of their management and business operations. You can learn a lot about the big public builders by listening to their conference calls and analyst presentations. For example, last week several builders presented at the JP Morgan 3rd Annual Basics & Industrials Conference. I was only able to listen to one presentation live, but I’ve been catching up on all of them by listening to the recorded webcasts. The most informative so far was Centex, which you can access here. Most of the Centex presentation was from Cathy Smith, the Centex Corporation CFO. Cathy demonstrated a confident grasp of Centex’s view of the market, their strategy and their business priorities. Two of her slides were worthy of sharing. First, she presented a great view of the ARM resets by type of ARMs. This succinctly summed up to me that we are through the worst of the credit and default risk barring a complete collapse of the economy. While there is a second peak wave of resets due in the summer of 2010, the riskiest of the ARMs have clearly peaked. Moreover, there’s ample opportunity for many future resets to be refinanced.  My second favorite slide highlighted the price differences in Centex’s new homes versus the resale market in Riverside-San Bernardino-Ontario, CA. New homes have been priced in that market (and we can attest in most markets) at a discount to existing homes for more than 2 years now, reaching a current discount peak of 25%.  Kudos to Centex for tracking and sharing this data. I’ve seldom see builders talk about this, but it’s very relevant. The new home premium (or discount) shows the relevant strength of the new home market as well as being a leading indicator of what’s ahead. Since new home prices adjust more rapidly than existing homes, when we see this discount come back down, we’ll know that new homes are in recovery. The discount shows that Centex has been doing what it takes to compete with existing homes, and they have slowly made progress on inventories. We’re working on the ability to track this in every market in the country. For now it is next to impossible to do for all new homes, which is why it’s so helpful to see such information being reported by Centex. All in all, I think Centex and a few other big builders are doing what is necessary to survive and to come out of this downturn in a position to take advantage of opportunities such declines present. If I weren’t trying to survive myself I’d be taking the contrarian market bet against Moody’s and the broad investment sentiment. Isn’t a true sign of a bottom when the market throws in the towel? 
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