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5 Top Homebuilding Stocks to Ride the Booming Industry

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The rising need for more work-at-home space and record-low borrowing costs have been aiding the Zacks Building Products - Home Builders industry. Indeed, the U.S. housing space continues to grapple with rising raw material and labor costs. Also, disruption in the supply chain arising from the novel coronavirus outbreak may impact builders’ ability to deliver on time. That said, low mortgage rates and the Fed’s dovish stance should continue to spur home-buying activity in the near term, thereby aiding companies like Toll Brothers Inc. (TOL - Free Report) , Meritage Homes Corporation (MTH - Free Report) , TRI Pointe Group, Inc. (TPH - Free Report) , Century Communities, Inc. (CCS - Free Report) , and M/I Homes, Inc. (MHO - Free Report) .

Industry Description

The Zacks Building Products - Home Builders industry comprises manufacturers of residential and commercial buildings. Some of the industry players are involved in providing financial services that include selling mortgages and collecting fees for title insurance agencies as well as closing services. The industry players are involved in building single-family detached and attached home communities; townhouses, condominiums, duplexes and triplexes; master planned luxury residential resort-style golf communities; and urban low, mid, and high-rise communities. The companies are also involved in the purchase, development and sale of residential land. Additionally, the companies build and own multi-family rental properties; residential real estate; and oil and gas assets.

3 Trends Shaping the Homebuilding Industry's Future

Fed’s Dovish Stance & Low Borrowing Costs: The U.S. housing market remains buoyant, with home sales rising at a record pace, defying low inventory levels and broad-based economic as well as public health risks. The fundamentals of this rate-sensitive market — which accounts for almost 3% of the economy — remain favorable, given the Fed’s dovish monetary stance and lower mortgage rates. Additionally, the need to rebuild inventories is expected to drive U.S. housing aggressively.

Suburban Shift, Cost-Control Efforts & Focus on Entry-Level Buyers: In addition to low borrowing costs, the changing geography of housing demand has been supporting builder confidence. Demand for new homes is improving in lower-density markets, including small metro areas, rural markets and large metro exurbs, as people seek larger homes to work from home amid the pandemic. The desire for more space and amenities to accommodate working and learning from home should continue to boost the U.S. housing market in the near term.

Homebuilders have been controlling construction costs by designing homes efficiently, and obtaining construction materials and labor at competitive prices. Some homebuilders follow a dynamic pricing model, which enables them to set the price according to the latest market conditions. Again, the majority of companies are focused on growing demand for entry-level homes and addressing the need for lower-priced homes, given affordability concerns prevailing in the U.S. housing market. Meanwhile, industry biggies like Lennar (LEN - Free Report) , PulteGroup (PHM - Free Report) , D.R. Horton (DHI - Free Report) and others have been acquiring other homebuilding companies in desirable markets, in turn resulting in improved volumes, revenues as well as profitability.

Supply Chain Hurdles, Higher Input Costs & Tight Labor Market: The COVID-19 outbreak and response to the health crisis in various countries are likely to have a lingering impact on the supply chain in the near term, which, in turn, may impact builders’ ability to deliver on time. Precisely, rising material costs are quite challenging. According to an Associated Builders and Contractors' latest analysis of information provided by the U.S. Bureau of Labor Statistics, there has been an upward pressure on certain input prices, including energy prices, in recent weeks. Again, shortage of skilled labor continues to be a pressing concern. Homebuilders remain cautiously optimistic about the industry’s prospects owing to rising input and labor costs.

Zacks Industry Rank Indicates Bright Prospects

The Zacks Building Products - Home Builders industry is a 19-stock group within the broader Zacks Construction sector. The industry currently carries a Zacks Industry Rank #37, which places it at the top 15% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates upbeat near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the top 50% of the Zacks-ranked industries is a result of positive earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are gradually gaining confidence in this group’s earnings growth potential. Since May 2021, the industry’s earnings estimates for 2021 and 2022 have gone up approximately 10.5% and 11.4%, respectively.

Given solid near-term prospects, we will present a few stocks that have the potential to outperform the market. But before that, it’s worth taking a look at the industry’s shareholder returns and current valuation.

Industry Lags Sector and S&P 500

The Zacks Building Products - Home Builders industry has lagged the S&P 500 Index and the broader Zacks Construction sector in the past year.

Over this period, the industry has gained 28.5% compared with the S&P 500’s rise of 33.7% and broader sector’s 38.8% rally.

One-Year Price Performance

Industry's Current Valuation

On the basis of forward 12-month price-to-earnings ratio, which is commonly used for valuing homebuilding stocks, the industry is currently trading at 7.8 compared with the S&P 500’s 21.8 and the sector’s 15.2.

Over the last five years, the industry has traded as high as 14.4X and as low as 6.3X, with a median of 10X, as the chart below shows.

Industry’s P/E Ratio (Forward 12-Month) Versus S&P 500

5 Homebuilding Stocks to Buy Right Now

We have selected five stocks from the Zacks homebuilding space that currently sport a Zacks Rank #1 (Strong Buy) or 2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

M/I Homes: This Columbus, OH based builder of single-family homes has been gaining from a high level of performance across all 15 of its housing operations, and the Mortgage and Title business. Increased deliveries, greater operating leverage, stellar backlog level, and higher return of equity have been helping the company to generate improved profits.

The stock, carrying a Zacks Rank #1 at present, has gained 53.3% so far this year, outperforming the industry’s 25.8% rally. The Zacks Consensus Estimate for its 2021 earnings has been upwardly revised by 32.5% over the past 30 days. Earnings for 2021 are expected to grow 63.3%.

Price and Consensus: MHO

TRI Pointe Group: Based in Irvine, CA, this company engages in the design, construction, and sale of single-family detached and attached homes in the United States. It has been gaining from robust demand, pricing, and better operating leverage. Cost-cutting initiatives implemented earlier this year and focus on entry-level buyers have been adding to the positives. The company witnessed backlog (in units) growth of 53% year over year for second-quarter 2021. The upside in orders was broad based across a number of demographic segments and geographies, with the majority of buyers representing the millennial cohort.

The stock, carrying a Zacks Rank #1 at present, has gained 39.6% year to date. The Zacks Consensus Estimate for its 2021 earnings has been upwardly revised by 15.3% over the past 30 days. Earnings for 2021 are expected to grow 66.8%.

Price and Consensus: TPH

Meritage Homes: Based in Scottsdale, AZ, Meritage Homes is one of the leading designers and builders of single-family homes. The company’s successful execution of strategic initiatives to boost profitability and focus on entry-level LiVE.NOW homes bode well. Furthermore, Meritage Homes’ strategy to target entry-level buyers is gaining traction and will continue to boost its performance over the long haul.

This Zacks Rank #1 company’s earnings are expected to grow 72.4% in 2021. It has gained 34.5% in the year-to-date period. Meritage Homes has seen an upward estimate revision of 2.3% for 2021 earnings over the past 30 days.

Price and Consensus: MTH

Toll Brothers: Based in Horsham, PA, Toll Brothers is a leading builder of luxury homes. The company has been benefiting from its strategy of broadening the product lines, price points, and geographies. Also, it has been gaining from a favorable housing backdrop, lack of competition in the luxury new home market and buyout synergies.

This Zacks Rank #1 company’s earnings are expected to grow 75% in 2021. It has gained 47.4% in the year-to-date period. Toll Brothers has seen an upward estimate revision of 3.1% for fiscal 2021 earnings over the past seven days.

Price and Consensus: TOL

Century Communities.: This Greenwood Village, CO-based company engages in the design, development, construction, marketing, and sale of single-family attached and detached homes. Demand for its affordable new homes driven by favorable demographics, tight resale supply, and low interest rates, while underscoring the strength of its competitive positioning and national footprint across 30 high-growth markets, has been driving Century Communities’ growth.

The stock has gained 64.2% year to date. The company currently carries a Zacks Rank #2 and has an expected earnings growth of 119.5% for 2021. The Zacks Consensus Estimate for its 2021 earnings has moved up 18% over the past 60 days.

Price and Consensus: CCS

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