As dubious as the signals within the housing market, stocks like DR Horton (NYSE:DHI) have been rallying to new highs. The rally is driven by outperformance in the face of rising rates and falling mortgage demand, and it may continue. The Q3 report is more of the same strength, but there is a caveat.
Key Points
- DR Horton had a blowout quarter, but shares fell more than 4.0%.
- The pace of new orders increased but was insufficient to offset the decline in earlier quarters.
- Analysts have supported the rally but the stock looks overbought and overpriced.
- 5 stocks we like better than DR Horton
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While the Q3 results are more of the same outperformance, the signs of weakness continue to grow. Strength in the housing market is due to several factors outside the control of the homebuilders, including interest rates.
High-interest rates keep existing homeowners from selling and make it increasingly difficult for new buyers to get into a new home. That, and the rapidly diminishing backlogs, point to a severe slowdown in the homebuilding industry that could start at any time.
Based on the outlook for the FOMC policy trajectory, that slowdown could begin over the summer and worsen as the year progresses. The FOMC is expected to hike rates by at least 25 basis points.
That has the average 30-year mortgage back in the 7.5% range, which has caused buyers to pull back in the past.
The only ray of light in this outlook is that rates may begin to come down by the end of the year, but even that is a 2-edged sword. Falling rates could spark a wave of existing home sales, flood the market with inventory, and sap demand for newer homes.
And that’s if there isn’t a recession. So, the homebuilders and DR Horton are showing strength now, but the odds remain high that the strength won’t last.
DR Horton Has Blowout Quarter
DR Horton had a blowout quarter. The company reported $9.73 billion in net revenue, a gain of 11% compared to last year. This contradicts an expectation for revenue to fall YOY and outpaced the consensus estimate by 1500 basis points. Strength was seen in volume and pricing, which increased by 8% and 4%, and added leverage to the bottom line.
The GAAP $3.90 in EPS is $1.11 better than expected, about 4000 basis points, but there is a catch. Expense increases outpaced the revenue growth and cut into the earnings. The GAAP EPS is down 16% YOY.
Guidance is favorable. The company expects revenue to be at least $34.2 billion compared to the previous high of $32.34 billion, which could be a cautious estimate.
Rising interest rates could cause front-running and lead to accelerated sales. In this scenario, the looming contraction would get closer.
Regardless, DR Horton’s backlog is down 34% YOY despite a sharp uptick in new orders. New orders surged 37% during the quarter, likely due to the dip in interest rates seen during the period, but are down 5% YTD, which does not suggest strength.
The Analysts Are Capping Gains For DR Horton
The analysts have supported the uptrend in DR Horton stock, but the trend has outpaced their targets and looks overvalued. The Marketbeat.com consensus sentiment slipped to Hold from Moderate Buy over the last year, and the price target of $118 is below the current action.
The most recent targets are on the high side of consensus, but even at $120 don’t offer much upside. If this doesn’t change, it is unlikely DHI stock can move much higher.
DHI stock surged the week before the Q3 release, setting a new all-time high. The post-release action has the market down from that high showing significant resistance at this level. Without another catalyst, a move above $130 will be difficult. In this scenario, the stock could become range-bound at current levels.
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