Home-builder stocks are cheap, but it's not easy to time a rebound in the depressed housing market
Berkshire Hathaway recently disclosed a stake in home builder D.R. Horton, adding to its housing-related investments.
Berkshire Hathaway has been putting more money into beaten-down home builders, but timing a recovery in the housing market is tricky.
In many ways, Berkshire's $(BRK.A)$ $(BRK.B)$ recent housing bets personify its value-seeking investing ethos. The conglomerate's willingness to invest for the long run - and its deep pockets - have also been on display.
That doesn't mean these particular investments are ones to match right now for investors with shorter time horizons and far lighter purses. Those thinking longer term, however, might spy an opportunity, as Wall Street expects the sector to perform better next year.
See also: Berkshire Hathaway doubles down on the U.S. housing market with a fresh bet on this stock
"There's certainly value there," said Jamie Meyers, an analyst at Laffer Tengler Investments. His firm has owned D.R. Horton $(DHI)$ shares, which Berkshire recently bought as well, for more than a year. Laffer Tengler was banking on a potential housing recovery in the next two to five years, he said, adding: "We still think that's in the cards."
It's a tough market to get right, however, as upper-end homes continue to appreciate, but other pockets of the market not as much. A timing for that recovery is also uncertain, Meyers said. For now, Laffer Tengler plans to hold on to its home-builder stocks but not add more, he said.
Many housing-related stocks are trading at depressed valuations, said Drew Reading, an analyst with Bloomberg Intelligence. "The industry as a whole has really been beaten down," and Berkshire and other investors likely see an opportunity, he added.
Fresh off closing its $6.8 billion deal for home builder Taylor Morrison, Berkshire Hathaway bought a new, albeit small, stake in D.R. Horton, the top U.S. home builder, and boosted its position in home builder Lennar $(LEN)$ by nearly 30%, according to a recent filing detailing purchasing activity in the second quarter.
Both moves come as American consumers are beset by concerns about the housing market, including rising mortgage rates and affordability.
The companies themselves are grappling with rising costs for materials, labor and fuel. They continue to offer incentives and even price reductions in some markets as they try to unload their housing inventories and counter tepid demand.
Home-builder stocks usually rise and fall in the opposite direction to mortgage rates, and mortgage rates are on the rise again this week.
Some of the week's economic gauges also painted a concerning picture of the market, including home-builder sentiment, which remains depressed and below the break-even level of 50 since April 2024. U.S. housing starts, a measure of new residential construction, fell below expectations in July.
All point to a sector under operational stress, particularly at the lower end of the market, which attracts entry-level buyers who are more sensitive to rates and monthly payments.
Two major exchange-traded funds covering the housing market, the iShares U.S. Home Construction ETF ITB and the State Street SPDR S&P Homebuilders ETF XHB, have vastly underperformed the S&P 500 index SPX this year.
Of the two, the State Street ETF has done better because it is more diversified into home-furnishing retail and building materials. Some of its major holdings are Owens Corning $(OC)$ and Williams-Sonoma $(WSM)$.
With the $6.8 billion Taylor Morrison deal, Berkshire likely went for scale as it sought to deploy some of the massive pile of cash it had amassed. It was the first major acquisition under CEO Greg Abel, who took the reins from Warren Buffett in January. Buffett remains the company's chairman.
The conglomerate also owns Clayton Homes, a maker of manufactured homes, and other housing-related businesses. "So it's something they know" and in which they are in a position to play the long game, Reading said.
The U.S. housing market is undersupplied, particularly when it comes to starter homes. The industry in general is looking at mergers and acquisitions as a way to scale up and bring costs down, he added.
"When a builder has scale, they're able to get better access to land, they're able to get better access to labor. They can drive cheaper labor rates. They are able to leverage their size to get national purchasing contracts so they can get discounts on the supplies," Reading said.
A combined Taylor Morrison and Clayton Homes would be the fourth-largest home builder in the U.S. based on the number of closings. "When you put Berkshire's capital resources behind that, you have a really strong competitor in the marketplace. So part of it is just building scale," Reading said.
The first half of the year hasn't been kind to the sector. Analysts at Barclays recently called the all-important spring buying season "underwhelming." Prices remain "too elevated for what buyers are willing or able to pay today," they said in a note.
There were exceptions - higher-end buyers are holding on, and some U.S. regions such as the Midwest and Northeast are still seeing "persistently stable traffic," the analysts said.
D.R. Horton and Lennar are among the top five U.S. home builders by several measures, and both are able to take advantage of the all-important economies of scale.
Both companies also have become less leveraged, shedding assets and not owning as much land as they had in the past. Instead, they are optioning land, which helps them generate higher returns and remove risk from their balance sheet, Bloomberg Intelligence's Reading said.
"These are two 'best of breed' builders for the longer term, the two that are most likely to continue to consolidate market share, whether the market is growing or if it remains depressed," he said.
They are also among the better-managed names in the sector, with a geographically diverse portfolio to spread their risk and cater to the broadest range of buyers - including the well-heeled, who benefit from the run-up in prices.
"That's what makes them unique," Reading said.
This year likely will be challenging for U.S. home builders, and the tone is still cautious in the near term. But the market could start to turn a corner next year.
"That's not to say we think there's going to be a massive re-acceleration and housing activity, but I think we're kind of bouncing along the bottom now ... there's a lot of optimism coming into the year," Reading said.
-Claudia Assis
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