Murky Signs in Housing

Investors have recently seen conflicting signs about the strength in the housing market. In May, the adjusted annual pace of new-home sales came in at 504,000, the fastest print in six years. Pending-home sales for May also took its highest monthly jump in four years. But in quarter ended July, earnings and sales from major homebuilders such as D.R. Horton (DRI) and PulteGroup (PHM) were disappointing. Yet the home-improvement market seems robust, based on the just-released earnings report from Home Depot (HD). The company's same-store sales shot up almost 6%. On the other hand, Fannie Mae and Freddie Mac significantly lowered their forecast for residential-construction starts on Monday, bringing down their previous guidance for signal family homes by more than 10%. To add to the confusion, homebuilder confidence came in at its highest level since January, as all three core parts of the survey rose nicely. So what should an investor make out of all this conflicting data in the housing market? Personally I believe some of volatility in housing this year has been due to a horrid winter that pushed back a significant amount of housing activity by several months. Now that this pent-up demand has been worked off, we are getting mixed signals about the true direction forward for housing. I am leaning toward the optimistic side. With the decline in interest rates in U.S. Treasuries and yields so far this year, mortgage rates are very low by historical standards. The domestic economy also turned in its strongest six months of job gains in more than a decade, and that should help buyer confidence. Finally, it is tough to foresee the U.S. economy achieving the 3% gross domestic product growth in the back half of the year -- which most pundits expect -- without a solid if not robust housing market. I am continuing to add to my two favorite homebuilders, UCP (UCP) and TRI Pointe Homes (TPH), on any dip in the overall market. UCP is primarily a Northern California builder whose land inventory is carried far below cost, as the company acquired approximately 70% of its lot acreage in the dog years of 2008 to 2010. Sales are set to exponentially increase over the next few years as the company brings new communities online. I can see 50% upside to this play over the next 12 to 18 months, provided that the housing market remains solid. TRI Pointe Homes recently came to my attention, as the homebuilder has crushed expectations over the past several quarters. Earnings are tracking for 50% year-over-year gains for 2014, and analysts see even faster earnings growth in 2015. The stock is going for around 11x next year's earnings projections. For investors who want to go further out on the risk scale, building material plays such as Louisiana Pacific (LPX) or Ply Gem Holdings (PGEM) could fit the bill. Both companies, along with other building-material plays, are having a terrible 2014, but analysts see much brighter days ahead in 2015. I am not quite there yet, but have noticed these stocks have started to bounce off 52-week lows over the past week or so. So, once again, reading the tea leaves around the housing market presents an unclear picture. But it is one area I am watching closely, as it holds some of the keys for faster economic growth in the last few months of 2014, as well as potential investment opportunities.

Murky Signs in Housing

It's a mixed bag for sure -- but I lean toward the optimistic side.

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