Homebuilders: Sterne Agee Sees Stronger Earnings Ahead

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Sterne Agee Analyst Jay McCanless is bullish on homebuilders given the fact that the the homebuilding ETF ITB is up 6.2% so far in 2015 compared with the 1.7% return of the S&P 500.

McCanless believed that the shares of homebuilders will trade higher this year, which prompted him to raise his price target for certain stocks in the sector. The analyst raised his price target for the shares of D.R. Horton, Lennar Corporation, Meritage Homes, Ryland Group, PulteGroup, Standard Pacific, and Tri Pointe Homes.

Price target for homebuilders

McCanless explained that the increase in his valuation assumptions for the homebuilders was based on his belief that the affordability and growth in net households raises the potential for earnings and order growth that would beat expectations.

  • D.R. Horton- price target raised to $28, which is ~15.0x unchanged FY15E EPS of $1.96
  • Lennar Corporation- price target raised to $44 , which is ~15.0x unchanged FY15E EPS of $2.81
  • Meritage Homes- price target raised to $53, , which is ~15.0x unchanged FY15E EPS of $3.63
  • Ryland Group- price target raised to $53, , which is 15.0x unchanged FY15E EPS of $3.53
  • PulteGroup- price target raised to $27, which is ~2.0x unchanged FY15E book value per share of $13.69
  • Standard Pacific- price target raised to $9, which is 15x P/E valuation of FY15E EPS of $0.59
  • Tri Pointe Homes- price target raised to $18, which is 15xP/E valuation of unchanged FY1515E EPS of $1.26

Tailwind for homebuilders

McCanless emphasized that the increasing demand for shelters serves as tailwind for the equities of homebuilders this year. The analyst explained that the net household formation grew above average in C2H14.

In a previous note to investors, McCanless noted that the net number of households in the United States increased 2 million to 116.8 million year-over-year in 2014. The growth exceeded the annual growth of 881 thousand households over the past 10 years.

According to McCanless, determining which new households will rent or buy is a “guess work at best.” However, he believed that the “likely increase in shelter demand from more households should benefit all (multifamily, sing-family rentals, and homebuilders) providers of housing.”

Move-up buyers: a major contributor to homebuilders’ revenues

In addition, the analyst believed that traditional move-up buyers are the biggest contributors to the near-term revenues and earnings of homebuilders/housing providers.

McCanless suggested that a move-up buyer is the demographic where homebuilders can maintain or raise prices. He believes that the equities of the homebuilders mentioned above can generate 60% or more in revenues from move-up and luxury buyers.

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