Barclays downgrades US homebuilder stocks as risk-reward turns more balanced

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. 

The move comes as investment bank sees a more balanced risk/reward scenario as incentives remain higher for longer, and uncertainty looms over policy changes from Washington D.C.

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

“We think that consensus earnings estimates need to come down further to reflect this more symmetric risk/reward balance,” analysts said in a note.

“We prefer to 'fade' any rate-driven stock rallies for homebuilders until earnings estimates and valuations are appropriately reset,” they noted.

The note also points out several factors influencing the broader homebuilding industry, including 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 showing an average decrease of 2% for deliveries and a 55 basis point reduction in margins for the downgraded stocks.

Moreover, policy directions from the new administration in Washington D.C. add to the uncertainty, with potential changes in immigration, taxes, inflation, and housing-related policies yet to be clarified.

“We'll likely have a better understanding of these factors into 2025 after inauguration,” analysts said.

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

The firm argues that the market may be overvaluing the builders' ability to reduce incentives and maintain demand, particularly in light of the upcoming spring selling season and the direction of policy changes 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 continued.

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