Long Awaited Home Building Boom Is Benefiting This ETF
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Sometimes the search for investments that outperform the market is best met by taking an index or basket position. This approach may be the best risk-adjusted return strategy. Such methods can be both effective and efficient by saving time and effort to sift through a wide selection of possibilities. The iShares Dow Jones US Home Construction (NYSEMKT: ITB) index fund is a great example of this concept.
This ETF is focused on home construction, contains 29 stocks, and the top four represent approximately 37.5% of the entire portfolio. Some 65% of this ETF is held in home builders. The recent return measurements show the explosive turn-around in this industry. A group that was left for dead during the 2007 and 2008 implosion of anything housing-related has clawed its way back to the top. This began at the end of 2011. The one-year price chart below shows the one-year return of approximately 78.5%.
The top holding, as of May 16, in the iShares Dow Jones US Home Construction ETF, with a weighting of 10.5%, is PulteGroup (NYSE: PHM). Pulte has posted an impressive one-year return of 182.1%. The chart below displays the climb from single-digit price to current value. The first quarter of 2013 earnings were reported at $0.21 per share versus a loss of $0.03 per share in the first quarter of 2012.
All operating measures have improved and the fundamental driver of this is the increased demand for new homes starting in 2012 and continuing into the spring of 2013. Higher selling prices and improved margins were significant contributors of this financial-performance turnaround. The key to observing and predicting Pulte’s performance is tied to new housing starts.
Next in line of holdings in this ETF is D.R. Horton, with a weighting of almost 10%. D.R. Horton had a one-year return of 72.1%. D.R. Horton is another example of the vast improvement in new home building. Second quarter 2013 earnings were reported at $0.32 per share, diluted, versus $0.13 per share, diluted, for the same quarter in 2012.
The same drivers that are increasing the demand for new homes have been observed in the operating and financial performance of DR Horton. The chart below shows how the market responded to the earnings release. As the outlook for improving new home demand continues, DR Horton is well positioned to capitalize on these conditions.
Following closely with a 9.4% weighting in the iShares Dow Jones US Home Construction index fund is Lennar (NYSE: LEN). Lennar has also enjoyed the rising tide in new home building and delivered a one-year return of 68.1%. The price chart below shows a recent gap created by demand for the shares. The first quarter of 2013 earnings report follows the trend of this group. Earnings were stated at $0.26 per share, diluted, versus $0.08 per share, diluted, in the same quarter of 2012.
This performance has lead Lennar to be an active acquirer of land for development purposes. Management believes that as long as interest rates remain at or close to current levels, continuance of profit margin and operation performance will remain intact.
Fourth spot in the lineup of the iShares Dow Jones US Home Construction index fund goes to Toll Brothers (NYSE: TOL). Toll Brothers has about 7.6% of the ETF and has only posted a one-year return of about 44.2%. Toll Brothers operates in the higher end of new home building. The degree of improvement in this segment of new home building, though positive, has not been as strong as the entry level and middle markets have seen. The price chart below gives some clues to this effect.
First quarter of 2013 earnings were reported at $0.03 per share, versus a $0.02 loss per share for the same quarter of 2012. The average sales prices on home sales have been declining and inventory is also dropping. The increased demand is helping and it appears that Toll Brothers will be lagging other market leaders in this group.
The vast change in home building is evident in this ETF and the top-four holdings. It is also clear that some sub-sectors of home building are better positioned than others. Due to these variances in stock performance, the passive index-based method of the sector as a whole, versus searching for individual stocks, works well here.
The current weighting shows the top performers and what these stocks contribute more than outweighs the rest of the index. The smoothing due to diversification has taken out the bumps and gaps. Should market conditions change for worse, this may give enough time to exit without enduring another precipitous drop.
In my opinion, this ETF is well positioned to continue to improve as a group and probably will not erode quickly if interest rates will spike upwards and slow down the demand like one of the individual stocks may.
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Jeff Stouffer has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!