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Tuesday, the National Association of Home Builders (NAHB) will release its monthly survey. The survey will provide insight into the impact of higher mortgage rates on builder sentiment and housing activity. According to the Freddie Mac mortgage survey, the 30 year fixed mortgage rate has risen from 3.59% on May 23rd to 4.51% as of July 11th. The rise underscores the potential shock to housing demand.   The survey tends to be an underrated indicator, but is a solid leading indicator of home sales and housing starts.

Inventories are lean and supporting home prices:

The main bullish dynamic for home builders is lean inventories. There was a 5.1 month supply of existing homes on the market in May compared to a 9.4 month supply in 2010, and at 2.220 mln units, inventories are back at levels seen in the early 2000’s.   The same story is present in the new home space. In May, there were 161,000 new homes for sale which is in record low territory. Inventory levels are supportive to building activity and builder profits.  Low inventories have also helped support new home prices and builder margins.  New home prices were up 10.3% year over year in May.

Drilling into the details:

The NAHB composite index jumped 8 to 52 in June, but the trade is looking for the July reading to dip just 1 to 51.   The outlook seems buoyant given the vicious rise in mortgage rates and surge in the June reading. I am willing to take the under against the consensus. Below the surface, it may be worth monitoring the current sales and traffic flow indices.   Current sales may be high as buyers rush to lock mortgage rates, but traffic could fall off if higher rates are discouraging new business.   The combination of higher mortgage rates and rising home prices are a headwind to housing demand. The MBA purchase index has eased 8.5% from its May peak, but is within the range seen over the past year.   Recent dovish comments from Fed Chairman Bernanke may have been aimed at capping the rise in mortgage rates.

At last check, the Zacks Construction Industry sector was expected to post 46% earnings growth in Q2 2013.  The table displays 2013 and 2014 earnings per share and changes over the past 30 days for a select group of homebuilders.   Despite the recent rise in mortgage rates, EPS estimates have been biased upward.  Lennar (LEN - Analyst Report) and MDC Holdings(MDC - Snapshot Report) have posted the strongest upward revision in 2013 estimates in the past month.    Notice that the homebuilders in the table are either a Zacks Rank #1 (Strong Buy) or Zacks Rank #2 (Buy).

Summing it up:

The NAHB survey could impact the outlook for homebuilder earnings. A firm survey could keep EPS estimates buoyant and support the outlook for continued profit growth by downplaying the recent rise in mortgage rates. However, a soft reading could dampen the favorable trend in upward earnings estimates, and cause the sector to focus more closely on the path of interest rates. Watch to see if EPS estimates move in the days following the NAHB survey. 

Technically, the SPDR Homebuilders ETF (XHB - ETF report) has a price gap below current levels at $29.92. This level may be monitored for support by chartists.  The $31.65 high from June 18 and $31.78 low from May 16 may be watched for resistance and selling pressure.  The ability of the XHB to work through these levels may be an indication of investor sentiment toward the sector.

 

 

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