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The housing market has steadily made a comeback from the lows witnessed in mid 2006 owing to the industry’s severe and widespread downturn. However, the housing momentum seen in 2012 and in the first half of 2013 seems to have moderated somewhat with the recent spike in mortgage rates, tight credit availability and a limited supply of land and labor.
Since mid 2012, homebuilders have largely benefited from historically low interest rates, eventually leading to the sharp increase in home buying activity. With the recent improvement in economic conditions and expectations of tapering of the QE program, mortgage/interest rates have been edging upward to more normalized levels since May 2013. (Read: 3 Ultra-cheap ETFs for Value Investors)
In fact, mortgage interest rates are at the highest level in two years. As a result we found the share prices of most housing stocks hurtling down after having peaked in May. The better-than-expected earnings at most homebuilders in the last quarter also failed to prevent the share slide.
This has raised concerns among some analysts. High interest rates dilute the demand for new homes, as mortgage loans become expensive. Subsequently, this lowers a buyer’s purchasing power. Moreover, if the Federal Reserve scales back its current $85 billion bond buyback program and instead adopts a tighter monetary policy, as planned, interest rates may further shoot up. This in turn would lower revenues and profits of homebuilders. (Read: High Dividend ETFs to buy even if Fed Tapers)
However, another group of analysts believe that interest rates are still below historical levels despite the recent hike and housing is still very much affordable. Thus, high affordability levels, increased rentals and historically low interest rates are driving the housing momentum. In addition, accelerating job growth and increasing consumer confidence are boosting demand for new homes.
Supply, however, is constrained by low home inventories, both for new and existing homes. A shortage of land and labor is restricting the construction of homes, both single and multifamily. Home prices have thus started to move up with market demand gaining momentum and supply remaining limited. In fact, rising home prices and thinning home inventories have created a sense of urgency among homebuyers who are now more anxious to buy a house before prices shoot up further.
Construction material companies like Vulcan and Eagle Materials and building product makers like Masco and Louisiana-Pacific are also slowly gaining momentum from rising new home demand. These companies are also seeing a concomitant rise in demand and volume. (Read: 3 ETFs for Rising Interest Rates)
ETFs to Tap the Sector
With this in mind, it could be time to give this segment a closer look. For investors looking to play the homebuilding sector in a less risky way, an ETF approach can be a good idea.
This technique can help to spread out assets among a wide variety of companies and reduce company specific risk for a very low cost. Below, we highlight three ETFs that worth a look in this sector:
SPDR S&P Homebuilders (XHB - ETF report)
XHB is one of the more popular homebuilding ETFs in the market today with asset under management of $1.9 billion and a trading volume of roughly 6,000,000 shares a day. The fund has an expense ratio of 35 basis points.
The fund holds 37 stocks in its basket, with 41% of the assets going to mid cap and 14% comprising large cap stocks. Despite the smaller holding pattern, the fund does not appear to be concentrated in the top ten holdings.
The fund has just 36.2% in the top ten holdings with Lumber Liquidators, Lowe's and A. O. Smith Corporation occupying the top three positions with asset allocation of 3.88%, 3.84% and 3.76%, respectively. (Read: Top Ranked Homebuilder ETF in Focus: XHB).
The fund’s assets include 25% homebuilders, 20% household appliances securities, 29% specialty retail stocks and the balance 26% of building materials companies. The fund carries a Zacks Rank # 2 (Buy) with a moderate level of risk.
iShares Dow Jones US Home Construction (ITB - ETF report)
Another popular choice in the homebuilding sector is ITB, which tracks the Dow Jones U.S. Select Home Construction Index. It has $1.72 billion in assets with a trading volume of roughly 3,000,000 shares a day, while its expense ratio is just 47 basis points.
The fund holds 33 stocks in its basket, out of which only 12% are large cap securities. The fund has a concentrated approach in the top ten holdings with 60.5% of the asset base invested in them.
Among individual holdings, top stocks in the ETF include Lennar, Pulte and D.R. Horton, Inc with asset allocation of 9.08%, 8.96% and 8.60%, respectively.
Homebuilders account for around 61.0% of this fund. The fund carries a Zacks Rank #1 (Strong Buy) with a moderate level of risk.
PowerShares Dynamic Building & Construct (PKB - ETF report)
This ETF is home to around 30 housing companies and has its assets invested across all classes of the market spectrum. Engineering and construction stocks comprise 27% of the fund, followed by building material companies that account for 15%. A look at the style pattern reveals that the fund has a preference for growth stocks.
The fund manages an asset base of $98.6 million and has an expense ratio of 63 basis points. The fund has only 16% in large cap securities and 46.7% in top ten holdings. The fund carries a Zacks Rank #3 (Hold) with a moderate level of risk.
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