Shares of some top homebuilding companies rose on Wednesday, Sep 18, after the Federal Reserve unexpectedly announced that it was not starting to taper its QE stimulus plan. The current bond buying program is expected to remain intact for some time.
The Fed is currently buying $85 billion in government bonds and mortgage backed securities a month, known as quantitative easing (QE), to keep interest rates low and boost economic growth. In June, Fed Chairman Ben Bernanke announced plans to scale back this bond-buying plan by year end and instead adopt a tighter monetary policy to avoid deflation. A tighter monetary policy would have resulted in further increase in interest/mortgage rates, which would, in turn, have affected home buying activity.
In July, Bernanke delayed the tapering of the bond purchases to keep interest rates low. Since then, investors have been expecting a reduction in the economic stimulus program before year end. However, Bernanke said that they wanted to see more evidence of economic growth before reducing the bond buying, suggesting that the rising interest rates could have played a role in the ‘no taper’ decision. The housing market gained on expectations that Wednesday's announcement may send mortgage rates down.
High interest rates dilute demand for new homes as mortgage loans become expensive, thus lowering a buyer’s purchasing power. This can hurt volumes, revenues and profits of homebuilders. Homebuilders have largely benefited from historically low interest rates, eventually leading to the sharp increase in home buying activity since mid-2012. Housing recovery drives employment upward and builds consumer confidence, thus providing stimulus to the overall economy.
However, since May, mortgage/interest rates are edging upward to more normalized levels, raising concerns among some analysts. As a result, share prices of most housing stocks started 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.
Stocks of large homebuilders like D.R. Horton, Inc. (DHI - Free Report) , Lennar Corp. (LEN - Free Report) and Toll Brothers (TOL - Free Report) as well as smaller ones like The Ryland Group, Inc. , Meritage Homes Corp. (MTH - Free Report) , KB Home (KBH - Free Report) and MDC Holdings Inc. (MDC - Free Report) rose on the Fed’s decision to not taper its monthly bond-buying program. Prices of these companies rose in the range of 5%-9% as homebuilding stocks are most sensitive to the outlook of interest rates.
The broader housing market also enjoyed a strong rally and the SPDR S&P Homebuilders (XHB - Free Report) gained 3.2%. Moreover, the Dow Jones and S&P 500 index surged to record highs. However, bond yields went down and the U.S. dollar fell to a seven-month low.