Low rates: A strong foundation for U.S. home-builder stocks

The Globe and Mail, Number Cruncher

By Gary Christie 

June 21, 2019

In The Globe And Mail, Gary Christie uses Strategy Builder to find U.S. home-builder stocks with attractive valuations and strong returns on equity. 

What are we looking for?

U.S. home-builder stocks with attractive valuations and strong returns on equity.

The world’s central banks seem to be in a global rate-cutting cycle, fearing the U.S-China trade war will slow global growth. The euro zone has
joined Switzerland, Denmark, Sweden and Japan in the negative interest rate club.

Wednesday’s interest-rate decision by the U.S. Federal Reserve was considered one of the most important in chairman Jerome Powell’s term so far. Although rates remained the same, there was a dovish tone from Mr. Powell; many other Federal Open Market Committee members are
calling for a rate cut before the end of the year.

Home builders tend to outperform in low-rate environments. The SPDR S&P Homebuilders ETF (XHB-NYSE) is up 26.5 percent year-to-date. According to
data from Redfin, a U.S. real estate brokerage, the average price of U.S. homes has reached a record US$316,000, compared with US$188,000 back in 2010. Rising prices and low inventory are bullish for shares of U.S. home builders as lower interest rates boost consumer confidence.

The screen

We will be using Trading Central Strategy Builder to search for U.S. home-builder stocks that have reasonable valuations combined with strong returns on equity and low debt levels.

We begin by dialing into the home-building and construction sector. We will search for stocks with a return-on-equity ratio of 10 per cent or more. The screen will focus on stocks with a price to-earnings ratio lower than 19, the S&P 500 average. Finally, to focus on companies with low levels of debt in case interest rates start to rise again, we will also filter to include only companies with debt-to-equity ratios of one or less.

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What did we find?

Topping our list is D.R. Horton Inc., a leading U.S. home builder with operations in 81 markets across 27 states. D.R. Horton mainly builds single-family detached homes, representing 89 per cent of its home-sales revenue. The company also offers mortgage financing and other services through its financial services segment. It has one of the lowest debt-to-equity ratios on
our list at 0.39 and a return on equity of 17.8 per cent. The market cap of D.R. Horton is the highest on our list at US$17.1-billion.

LGI Homes Inc. has been in a well-defined uptrend since November supported by its 20-day simple moving average, a technical-analysis tool. Current product offerings include entry-level homes, including both detached homes and townhomes sold under the LGI Homes brand and
luxury series homes sold under the Terrata Homes banner. The company has the highest return on equity on our list at 24.5 per cent.

The investment ideas presented here are for information only. They do not constitute advice or a recommendation by Recognia Inc. in respect of the investment in financial instruments. Investors should conduct further research before investing.