The Real-Estate Market Still Stinks, but Some Housing Stocks May Be Tempting
Despite the slowdown in the housing market, which is starting to lead to major stock market losses on Wall Street, home prices haven't collapsed. According to new Commerce Department data, the median price of a newly constructed home sold in June has fallen about 6 percent since January. Meanwhile, the National Association of Realtors reported the average sales price of an existing single-family home actually increased 9 percent since the start of the year.
Unfortunately, the same can't be said for housing-related stocks, many of which have been crushed amid the slowdown in residential real estate. So far this year, the two worst performing industries have been the home builders, which have lost more than 31 percent of their value on average, and savings and loans, which are down nearly 14 percent, thanks to the challenging mortgage market. On Tuesday alone, shares of Countrywide Financial, one of the nation's biggest savings and loans, tumbled more than 10 percent on fears over the ongoing affects of the crisis in the sub-prime mortgage market.
But just as would-be home buyers are starting to wonder whether it's time to start looking for some attractively priced properties, value-minded stock investors are beginning to sift through the rubble of housing-related stocks. In fact, the mere rumor that Warren Buffett, the world's most successful bargain-minded investor, might be interested in investing in Hovnanian Enterprises, a New Jersey-based home builder, sent Hovnanian stock up more than 12 percent in mid-July. This is a stock that lost nearly half of its value over the past year. (Buffett does not announce which stocks he is buying while he is building a position in a company and has not addressed this rumor).
The Buffett rumors notwithstanding, most pros believe it's still too early to be testing the waters of the home-building sector, which is perhaps the most direct play in residential real estate—shy of buying an actual house. In a recent industry report, Morgan Stanley analyst Robert Stevenson noted that an oversupply of houses for sale on the market and lackluster demand "will keep housing operating fundamentals weak for the foreseeable future." He added that "we believe single-family housing fundamentals are likely to get worse before improving."
But there are other areas of the housing market where opportunities are starting to present themselves. For instance, despite the slump in single-family home sales, Standard & Poor's either has a neutral or positive rating on all six categories of real estate investment trusts, which are also down year to date, says S&P chief investment strategist Sam Stovall. And around the outer edges of housing-related industries, some value managers appear to be finding some opportunities now that share prices have come down so much. John Rogers, chairman and chief investment officer for Ariel Capital Management, says he's been picking up a few high-quality housing-related stocks but nothing directly tied to home construction.
In the past six months, Rogers says he's been adding to positions in three housing-related stocks: Black & Decker, the tool manufacturer whose business is tied to home repairs and renovations; Mohawk Industries, a leading maker of home-flooring materials; and USG Corp., which manufactures drywall, ceiling tiles, and other construction materials.
Even though drywall sales are impacted by trends in home construction, Morningstar analyst Parrish Glover noted that last year, "40 percent of sales industrywide were for repairs and remodeling."
Bruce Berkowitz, comanager of the Fairholme Fund, another deep value-oriented fund, says he too is willing "to consider housing-related companies as their prices have started to come down—but only certain ones."
Like Rogers, Berkowitz has been buying shares of Mohawk Industries, which is one of two leading players in the $25 billion flooring-products market. (The other is Shaw Industries, which is owned outright by Warren Buffett's Berkshire Hathaway.)
Berkowitz says he has been eyeing Mohawk for quite some time. He noted that Mohawk is a high-quality company led by "a brilliant CEO" that generates a lot of cash. "And the stress in the residential housing market gave us an opportunity to step into the stock," he says.
Though Mohawk is affected by the slowdown in housing, Morningstar analyst John Kearney noted that it is diversified between the residential and commercial markets and that it has been growing its business through acquisitions.
Moreover, the majority of Mohawk's sales—60 percent—come from the so-called replacement market (in other words, home renovations and repairs) rather than from new construction. And Kearney notes that the replacement market has "historically shown its greatest strength when the new construction market softened."