Barclays Cuts Ratings on Homebuilder Stocks

Investing.com — Barclays (LON:BARC) analysts on Wednesday cut ratings on several homebuilder stocks, including DR Horton (NYSE:DHI), Lennar Corp (NYSE:LEN), PulteGroup Inc (NYSE:PHM), and KB Home (NYSE:KBH), downgrading them from Overweight to Equal Weight.

Each stock fell marginally in premarket trading.

Balanced Risk/Reward Scenario

The move comes as the investment bank sees a more balanced risk/reward scenario due to higher incentives remaining for longer, coupled with uncertainty over policy changes from Washington D.C.

Moreover, anticipated flattening of home price appreciation and ongoing high interest rates contribute to margin pressures for these companies.

Analysts mentioned, “We think that consensus earnings estimates need to come down further to reflect this more symmetric risk/reward balance.” They added, “We prefer to 'fade' any rate-driven stock rallies for homebuilders until earnings estimates and valuations are appropriately reset.”

Broader Homebuilding Industry Factors

The note highlights several factors influencing the broader homebuilding industry: persistent incentives, speculative pressure, and choppy housing starts and permits data. Analysts project that existing home sales may outperform new construction by 2025, with revised estimates indicating a 2% average decrease for deliveries and a 55 basis point reduction in margins for the downgraded stocks.

Policy directions from the new administration in Washington D.C. add to uncertainty, as potential changes in immigration, taxes, inflation, and housing-related policies remain unclear. Analysts said, “We'll likely have a better understanding of these factors into 2025 after inauguration.”

Valuation Concerns

In terms of valuations, Barclays notes they are still high, with the price-to-book to return on equity (ROE) ratio at 9.3x as of December 10, 2024, above the historical average of 9.0x.

The firm believes the market may be overvaluing builders' ability to reduce incentives and maintain demand, especially with the upcoming spring selling season and potential policy shifts in D.C. “We think higher for longer rates and incentives will weigh on both margins and demand, and builder valuations need to step lower before we can move more positive again on the group,” analysts concluded.

Upgrades

While downgrading the aforementioned stocks, Barclays analysts upgraded Owens Corning (NYSE:OC) and Taylor Morrison Home (NYSE:TMHC) to Overweight, citing compelling valuation levels.