Wedbush on Tuesday downgraded five homebuilding stocks, citing seasonal headwinds in what the company called the most “normal” housing trend since 2019.
The company downgraded all five stocks from “neutral” to “underperform,” and increased the price target for Century Communities (CCS) from $92 to $82, and for LGI Homes (LGIH) from $88 to $74. Lowered their price target for Meritage Homes Corporation (MTH) from $155 to $148. The target prices for DR Horton (DHI) stock and Lennar (LEN) stock remain unchanged.
Wedbush analyst Jay McCanless said, “The homebuilding industry follows a precise timeline of a full-on demand boom in the spring followed by a normal seasonal decline in demand as we head into the summer. This is unprecedented.”
“However, in terms of normal seasonality, 2024 was the most ‘normal’ year for the homebuilding industry since 2019. As a result, the stock prices of these stocks, especially after seasonal trading, have not been as normal over the summer. We believe seasonal stock prices may decline.” The window closes in April or May. ”
Notably, the company kept its profit forecasts unchanged for all five stocks.
The bearish call comes as each stock, except Lennar, has underperformed the iShares U.S. Home Construction ETF (ITB) since the beginning of the year.
“We believe this underperformance could worsen further if land acquisition and development costs continue to rise and timber prices continue to rise,” McCanless wrote.
A long period of rising interest rates and a lack of housing supply has allowed builders to focus on an underserved demographic: entry-level buyers. Builders have offered price cuts and incentives to increase production. However, that strategy put negative pressure on gross profits.
McCanless expects the same story to play out in the second quarter of this year, as mortgage rates remain near cycle highs. According to Freddie Mac, the 30-year fixed rate loan fell slightly to 6.79% from 6.87% last week.
Many housing economists believe mortgage rates are likely to fall in the second half of this year as the Federal Reserve lowers interest rates. But McCanless doesn’t think the move will be all that mechanical.
“While we believe this remains the market consensus view, mortgage originators (banks and non-banks) do not want to take on prepayment risk without having that risk covered,” he said. “Therefore, I take the opposite view on that point.” .
McCanless also noted that the spread between 30-year mortgages and 10-year Treasuries is currently “artificially wide” to account for refinancing risks.
