JPMorgan Answers Questions On The Homebuilder Sector, Projects 'More Modest' 2018

Investors with exposure to the homebuilding sector are likely happy with the sector's performance throughout 2017, but there are plenty of unanswered questions as the new year approaches. 

The Analyst

JPMorgan's Michael Rehaut.

10 Questions, Asked And Answered

While homebuilders for the most part performed strongly in 2017, "we expect a more modest performance in 2018," analyst Michael Rehaut said in a Tuesday report. 

The analyst covered 10 questions on the sector that he said are among the most commonly asked by investors. (See Rehaut's track record here.) 

  • Why was 2017 the best year for homebuilder stocks in nearly 15 years? A sector rotation away from retail and consumer discretionary — not industry or builder fundamentals — is most responsible for the strong performance.
  • What will the housing market and prices look like next year? Both single-family housing starts and new home sales will likely grow by around 10 percent in 2018.
  • What is the margin outlook for 2018? Homebuilders will likely show mostly steady order growth, gross and operating margin growth and EPS growth in the coming year, and that should mostly continue in 2019.
  • What impact will rising rates have on homebuilders? Expectations for a 30-basis-point increase in the 10-year Treasury by the end of 2018 to 2.7 percent won't have much impact on housing fundamentals.
  • What is the M&A outlook for 2018? Public-to-public M&A deals among homebuilders will "remain relatively sporadic" not only throughout 2018 but the next two to three years.
  • What impact will tax reform have on the group? On average, homebuilders will see a 17-percent EPS boost from tax reform in 2018, assuming a 25-percent corporate tax rate across the board.
  • How can homebuilders improve returns? Positive cash flow generation is key to improving returns, but return on equity will "become an ever greater area of focus" for investors.
  • What cities will be home to the strongest and weakest markets? San Francisco, Riverside and Tampa have the strongest fundamentals, while Houston, Austin, Dallas and San Antonio have the weakest fundamentals on a relative basis.
  • Are homebuilder stocks expensive or reasonable? The group started 2017 trading at 9x 2018E EPS and is now trading at around 11.7x 2019E EPS, which represents a "more reasonable, albeit still relatively full valuation."
  • What are the top and bottom picks for 2018? JPMorgan's top pick is PulteGroup, Inc. PHM.

A few home insurance companies stand out among the rest as the best of breed. Check them out here.

The following companies offer investors a combination of above-average fundamentals and attractive valuations, Rehaut said: 

  • Beazer Homes USA, Inc. BZH.
  • Century Communities, Inc CCS.
  • William Lyon Homes WLH.

JPMorgan said M.D.C. Holdings, Inc. MDC and KB Home KBH are Underweight. 

Related Links:

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Homebuilders Are Getting Crushed By Revised Tax Plan

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