Two views on LGIH: business outlook, and recent market trends.
The market has been negative “all year”. LGIH crossed below the 50-day average on either Thursday or Friday last week. The downtrend began before NVR reported weak results on Thursday and fell 5.9%. Today, Pulte reported mixed results. Revenue was up 12%. Fourth quarter sales were up the fastest in 11 quarters. Gross margins fell to 23.6% and the forecast for '18 was 23 to 23.5% due to higher labor, cement and land cost. If margins due come down in '18 that would make three years in a row with declining GM for Pulte Group. However, average selling price was up and they forecast a 5 to 15% increase for '18. Profits were down 72% due to tax charges related to the lower corporate tax rate ('17 tax rate still high but since law was signed during 2017, the value of future taxes on the books is reduced this year).
So, the market has sold off homebuilders including LGIH despite the forthcoming favorable tax environment coming up in '18.
But, how is the housing market? From Daily Reckoning today: Another week, another reminder of how tightly stretched the housing market is: on Wednesday, the National Association of Realtors said supply of previously-owned homes fell to the lowest since it started keeping records, in 1999.
With little inventory relief in sight from existing homeowners, the Realtors for years have called for a faster pace of home construction. But home builders have stepped up only marginally, saying they have new headwinds that make it hard to ramp up to the heady pace of past recoveries.
And analysts say that carefully controlled pace of feeding supply to frenzied demand means the good times will stretch on for a while. As fourth-quarter earnings for many of the biggest home builders trickle in over the next few weeks, that thesis will be on full display.
And, from MarketWatch:
For the better part of the past two years, we’ve stuck to our bullish call on residential real estate.
Our thesis was simple enough. The housing bust and ensuing financial crisis gutted the market and scared away buyers for years. When demand tanked, builders shifted their focus to multi-family units. Single-family home construction took a dive, supply tightened, and builders were slow to react once younger buyers hit the market in droves last year.
Homebuilders are just now starting to ramp up production to meet increasing demand. The echoes of the housing bubble have now caused yet another serious problem in the housing market: too many new buyers and not enough single family homes to go around.
As a result, the housing market is about to hit a rough patch.
The culprit?
Rising prices.
December existing home sales came in well below expectations. But demand isn’t slowing down. The problem is that there aren’t enough houses on the market for all the would-be buyers. Housing inventory dropped 11.4% in December, MarketWatch reports, marking the 31st month where supply was lower than compared to the previous year.
At that rate, it would take just a little over 3 months to sell all available inventory, MarketWatch notes. That’s the lowest supply level in 18 years. If you’re in the market for a new house right now, you’re in for some stiff competition — especially if you’re a first-time buyer. No matter where you look, the more reasonably priced homes are the ones in shortest supply.
Of course, investors are interpreting the data all wrong. They see sales slumping in the data from late last year and assume the housing market is cooling off. Sure, the housing market might cause buyers some trouble. It might even relegate some first-time buyers to the sidelines if rising prices pick up momentum this year.
But any troubles faced by homebuyers aren’t likely to put a major dent in homebuilders.
The market has spoken. Homebuilders need to ramp up production to meet consumer demand after sitting on their hands for the better part of the last decade. Supply is tight. As millennials continue to grow up and jump into the housing market, homebuilders are going to need to catch up.
A mixed bag for LGIH. Demand has been there, is there, and will be there. Supply is low and going lower. That is certainly good. Costs and prices are going up and that is bad for first time home buyers. But LGIH is in the business of supplying the low cost housing so they are building in the sweet spot of the market demand. And, LGIH’s gross margins, although down from 2014, were steady in '15 and '16. We shall see about '17 but not until March :(. Looks as though the market is wanting to compress homebuilder p/e’s and nothing we can do about that. But LGIH is trading at p/e of 15.6 ttm, 13 times my '17 estimate, and 10 times my '18 WAG. Maybe I have raised my stake too soon, as I often do. Sure, LGIH could make my '18 forecast and the market might decide that it is worth only 10x as it did not long ago–and I could still be at $67 a year from now. But I am going with the strong economy, good employment, higher prices, low inventory. That’s the tail wind that exists. Lower margins and lower affordability are worries. I am p/e anchoring to a degree, so we shall see.
KC