January 22nd, 2011
by John Lounsbury and Steven Hansen
Sometimes the obvious is not obvious. A sector can have a poor growth outlook, but still have a potential for earnings growth - and by default a rising stock price.
In Econintersect's analysis of new residential construction data (see analysis here), residential construction remains at historical lows. The data chart for residential completions proves this point. Follow up:
The residential building industry still has not hit the bottom as the number of completions still exceed permits being issued. This should soon change. An article written for Seeking Alpha (see article here), shows how this relationship between permits and completions should change in 2011.
Stock evaluation is based on profits. Profit growth happens either through rising sales, or cutting costs. One of the major costs facing this sector is downsizing. Downsizing costs money. Constructors must sell plant below book value, resize operations breaking leases, and selling non-moving inventory at below market prices. Downsizing should end in 2011.
Econintersect believes home builders likely will be one of the better performing sectors in 2011. Readers may be surprised to learn that the homebuilders have had investment returns compable to the broad market since the lows of early March, 2009. The following graph compares the total returns of XHB (SPDR S&P Homebuilders) with SPY (SPDR S&P 500).
Homebuilders as a group have been market performers for almost two years. The sector is poised to be a market outperformer over the next two years and probably, absent another recession, beyond two years.