How Morgan Stanley Is Playing Homebuilders In 2016

Haendel St. Juste of Morgan Stanley is expecting the housing market to continue growing in 2016, although at a slower pace. The analyst is estimating a 12 percent growth in orders in fiscal 2016 given ongoing labor market improvements, higher consumer confidence, growing household formation, and improved affordability. The anticipated growth rate marks a decrease from an expected 16 percent growth in fiscal 2015. St. Juste continued that shortages of land, labor, and mortgage credit and a shift towards renting instead of buying will "constrain" a more robust recovery. Accordingly, the sector's current valuation of 1.7x is broadly in-line with an appropriate multiple in this environment. "We continue to view the housing market as slowly progressing towards normalcy," St. Juste wrote. "The market is supported on the demand side by significant pent-up demand and an improving economy and on the supply side by higher inventory which addresses supply shortages. We view an improving labor market and higher formations as more likely to occur than stagnant growth or an interest rate shock."

St. Juste maintained an Overweight rating on shares of Lennar with a price target raised to $61 from a previous $55. The market is implying an ancillary business value of $12 per share while St. Juste is pricing the business at $15. The analyst noted that the ancillary businesses are "maturing" and would be a source of value if spun-off or potentially listed for an IPO. St. Juste also noted that on the homebuilding side, the company continues to maximize the price versus pace trade-off given its best-in-class margins and 15 percent year to date order growth.

St. Juste upgraded shares of Toll Brothers to Overweight from Equal-weight with a price target raised to $44 from a previous $39. The analyst noted that Toll Brothers is a luxury builder whose longer build cycle offers high visibility into fiscal 2016 deliveries. St. Juste is projecting a 30 percent earnings per share growth in fiscal 2016 on a 13 percent increase in revenue and 300 basis point improvement in operating margins driven by a higher mix of revenue from Citi Living – a tailwind which should last until at least 2017.