We got the release of July housing starts earlier this morning and the data showed that single-family home construction climbed to almost an eight-year high of 1.206 million units. July was up 3.0% versus June and 10% over last July.
Building permits cooled a bit, to an annual rate of 1.119 million. That's down 16.3% from the prior month, but 7.5% higher than the same time last year. Building permit issuance had seen two blistering months in May and June, which were up 23% and 29%, respectively, compared to the same time last year. It's normal to expect a slowdown after such strong activity.
Not surprisingly, the headlines are trumpeting the housing starts number and saying how it is the best in nearly eight years. Normally, I might be inclined to take that as a sign to lighten up on some of the homebuilder stocks if I were long -- and I am long Lennar (LEN) and Beazer (BZH).
We've seen a pretty good run in this sector and some of these names are up two, three, even four hundred percent or more from their 2009 lows. Some of the valuations are starting to look a little pricey.
On the other hand, I am looking at the housing starts number and it is telling me that we can still stay in these stocks a while longer. The homebuilder rally has more room to run.
I justify this outlook by looking once again at the current level of housing starts compared to the historical 40-year average of 1.5 million units. At the current rate of 1.2 million units, we still have a ways to go to catch up to the historical average. Furthermore, these things tend to overshoot. Just like in previous cycles, the construction industry will sow the seeds of its next downturn; however, we're not there yet.
For some perspective, consider that in 2005 we got up to almost 2.2 million units annually before the housing boom peaked out. In the early 1970s, we got up over 2.4 million units.
Admittedly, family formation is lower now than it was back then in the 1970s, but overall population is much higher (about 100 million higher). Furthermore, the super-depressed home construction levels that we saw post financial crash means that much of the nation's housing stock needs to be replaced or refurbished.
That makes me pretty confident that you can stay long these homebuilders for a little while longer. I wouldn't get serious about cashing out until we see the annual rate of home construction hit 1.5 million units or higher.
As for my favorites among the group, they are KB Home (KBH), Beazer, Ryland (RYL) and Pulte (PHM). I like these four because they are the best values. Both Lennar and Toll Brothers (TOL), especially the latter, are looking a little pricey, but not inordinately so.
A far more speculative situation is Hovnanian (HOV), but I'd be careful here because the company is supposedly under investigation for breach of fiduciary responsibility and it has not done well during this sector's entire rally. Personally, I would stay away.