Dow Jones MarketWatch, December 14, 2017 article: "How to find value amid a boom in U.S. housing stocks" [Analyzing long term business viability in selection of cyclical stocks]

Source: Dow Jones MarketWatch, December 14, 2017 article

How to find value amid a boom in U.S. housing stocks

Published: Dec 14, 2017 8:42 a.m. ET

Shares of home builders have run ahead of a strong stock market

Bloomberg

Contractors raise framed walls in San Jose, Calif.

Philip

van Doorn

Investing columnist

No doubt you’ve seen or heard reports about a housing shortage in the U.S. While this can make it difficult to buy a home, it can make you plenty of money as an investor, as long as the trend continues.

Let’s take a broad look at dozens of housing-related stocks to find value.

First, the big picture. This chart shows a very healthy market for sellers of new homes in the past five years, after the housing-market collapse and the 2008 financial crisis:

Here’s how the SPDR S&P Homebuilders ETF XHB has performed this year through Dec. 12 against the S&P 500 Index SPX:

FactSet

The ETF tracks the S&P Homebuilders Select Industry Index, which includes 37 S&P 500 companies that build homes or provide related products or services.

Here’s a 10-year chart comparing the total return of the ETF with the S&P 500, through Dec. 12:

FactSet

Of course, in December 2007, the housing-market collapse had already started and the forward-looking stock market had already sent shares of home builders and related companies plunging.

Looking instead at an 11-year chart, the story changes to show a cyclical industry that can still perform very well over long periods:

FactSet

Other factors influence the housing market, of course, both nationally and regionally. There’s no sign of a slowdown for the U.S. economy, but the Federal Reserve is slowly and steadily raising short-term rates. Mortgage loan rates are still very low, but nobody knows how the tax-reform legislation that may be passed and signed into law by President Trump as early as next week might affect the housing market.

If you believe in the long-term strength of U.S. housing and are looking for a broad long-term investment, you might simply go with the SPDR S&P Homebuilders ETF and its 36 holdings. Another option is the iShares U.S. Home Construction ETF ITB which tracks the Dow Jones U.S. Select Home Construction Index and has 47 stock holdings. Even so, it is much more heavily concentrated in stocks of the largest home builders.

The iShares ETF’s five largest holdings are all home builders, and they make up 45% of the fund. The fund has returned 54% through Dec. 12. The SPDR ETF’s top five holdings are four home builders and Home Depot (No. 5) that together comprise 25% of the fund. That fund has returned 28%, and the S&P 500 has returned 21% this year.

A short-term look at the components of XHB

We focused our screens on the SPDR S&P Homebuilders ETF. Here are its components, ranked by how much their sales for the past 12 reported months (through Dec. 12) increased from the year-earlier 12-month period:

Company	Ticker	Industry	Change in sales per share - past 12 months from year-earlier 12-month period	Gross margin - past 12 months	Gross margin - year-earlier 12-month period	Total return - 2017 through Dec. 12
LGI Homes Inc.	LGIH	Homebuilding	29%	26.25%	26.24%	146%
Installed Building Products Inc.	IBP	Building Products	29%	27.01%	27.81%	69%
PulteGroup Inc.	PHM	Homebuilding	28%	22.55%	21.56%	86%
William Lyon Homes Class A	WLH	Homebuilding	24%	17.28%	17.99%	48%
Century Communities Inc.	CCS	Homebuilding	20%	18.39%	20.13%	40%
iRobot Corp.	IRBT	Electronics/ Appliances	19%	50.20%	47.39%	20%
M.D.C. Holdings Inc.	MDC	Homebuilding	17%	16.69%	16.53%	35%
Toll Brothers Inc.	TOL	Homebuilding	17%	21.60%	19.84%	53%
Lowe’s Cos.	LOW	Home Improvement chains	16%	32.16%	32.26%	22%
Lennar Corp. Class B	LEN.B	Homebuilding	16%	21.44%	22.09%	46%
Lennar Corp. Class A	LEN	Homebuilding	16%	21.44%	22.09%	46%
D.R. Horton Inc.	DHI	Homebuilding	15%	21.63%	21.84%	85%
Taylor Morrison Home Corp. Class A	TMHC	Homebuilding	14%	18.70%	19.39%	21%
Owens Corning	OC	Construction Materials	14%	24.78%	24.75%	70%
A.O. Smith Corp.	AOS	Building Products	13%	41.10%	41.58%	30%
M/I Homes Inc.	MHO	Homebuilding	12%	20.96%	22.47%	36%
Lennox International Inc.	LII	Building Products	11%	29.33%	29.23%	36%
Home Depot Inc.	HD	Home Improvement Chains	11%	32.28%	32.32%	39%
CalAtlantic Group Inc.	CAA	Homebuilding	11%	21.24%	22.04%	62%
TopBuild Corp.	BLD	Building Products	10%	24.02%	23.17%	83%
NVR Inc.	NVR	Homebuilding	10%	19.47%	19.43%	102%
Cavco Industries Inc.	CVCO	Homebuilding	10%	22.39%	22.20%	40%
Bed Bath & Beyond Inc.	BBBY	Specialty Stores	9%	37.02%	37.83%	-42%
Fortune Brands Home & Security Inc.	FBHS	Building Products	8%	36.17%	35.29%	27%
Allegion PLC	ALLE	Building Products	7%	43.85%	43.93%	29%
Masco Corp.	MAS	Building Products	7%	34.11%	32.96%	35%
Whirlpool Corp.	WHR	Electronics/ Appliances	6%	16.48%	17.82%	-6%
Mohawk Industries Inc.	MHK	Home Furnishings	6%	31.93%	31.75%	38%
Williams-Sonoma Inc.	WSM	Specialty Stores	6%	36.73%	36.73%	8%
Leggett & Platt Inc.	LEG	Home Furnishings	4%	22.20%	24.14%	-3%
Helen of Troy Ltd.	HELE	Electronics/ Appliances	4%	43.90%	42.73%	8%
Aaron’s Inc.	AAN	Finance/ Rental/ Leasing	3%	47.03%	47.45%	13%
Tempur Sealy International Inc.	TPX	Home Furnishings	2%	41.72%	41.72%	-11%
Johnson Controls International PLC	JCI	Misc. Commercial Services	2%	30.85%	25.01%	-5%
Tri Pointe Group Inc.	TPH	Homebuilding	1%	21.48%	23.60%	52%
USG Corp.	USG	Construction Materials	-15%	20.86%	23.13%	28%
Source: FactSet

You can click the tickers for more information on each company, including news, price ratios, financials and filings.

We are showing sales per share, rather than raw revenue, because the per-share figures incorporate any dilution from the issuance of new shares for any reason (including to pay for acquisitions) as well as any decline in the share count brought about by stock buybacks.

A company’s gross profit margin is sales, less the cost of goods or services sold, divided by sales. It is a measure of profitability for the core business and reflects pricing power. A declining margin might mean that a company has been forced to offer more discounts to defend its market share or to increase sales.

Here’s the list again, in the same order, with summaries of the opinions of sell-side analysts polled by FactSet:

Company	Ticker	Share ‘buy’ ratings	Share neutral ratings	Share ‘sell’ ratings	Closing price - Dec. 12	Consensus price target	implied 12-month upside potential
LGI Homes Inc.	LGIH	33%	67%	0%	$70.73	$65.60	-7%
Installed Building Products Inc.	IBP	75%	25%	0%	$69.80	$73.86	6%
PulteGroup Inc.	PHM	36%	59%	5%	$33.69	$30.97	-8%
William Lyon Homes Class A	WLH	40%	60%	0%	$28.25	$30.88	8%
Century Communities Inc.	CCS	100%	0%	0%	$29.50	$33.80	15%
iRobot Corp.	IRBT	22%	67%	11%	$70.40	$72.60	3%
M.D.C. Holdings Inc.	MDC	0%	64%	36%	$31.17	$28.39	-9%
Toll Brothers Inc.	TOL	48%	48%	4%	$47.09	$48.86	4%
Lowe’s Cos.	LOW	53%	44%	3%	$84.99	$88.10	4%
Lennar Corp. Class B	LEN.B	52%	48%	0%	$49.29	$61.54	25%
Lennar Corp. Class A	LEN	52%	48%	0%	$61.43	$61.54	0%
D.R. Horton Inc.	DHI	52%	48%	0%	$50.00	$49.05	-2%
Taylor Morrison Home Corp. Class A	TMHC	8%	92%	0%	$23.35	$24.75	6%
Owens Corning	OC	64%	36%	0%	$86.98	$90.35	4%
A.O. Smith Corp.	AOS	43%	57%	0%	$61.06	$64.29	5%
M/I Homes Inc.	MHO	100%	0%	0%	$34.26	$36.50	7%
Lennox International Inc.	LII	24%	76%	0%	$206.68	$193.33	-6%
Home Depot Inc.	HD	71%	29%	0%	$181.80	$188.09	3%
CalAtlantic Group Inc.	CAA	7%	93%	0%	$54.75	$49.05	-10%
TopBuild Corp.	BLD	71%	29%	0%	$65.24	$73.14	12%
NVR Inc.	NVR	11%	78%	11%	$3,368.97	$3,231.00	-4%
Cavco Industries Inc.	CVCO	100%	0%	0%	$140.00	$164.00	17%
Bed Bath & Beyond Inc.	BBBY	4%	71%	25%	$23.18	$22.83	-1%
Fortune Brands Home & Security Inc.	FBHS	50%	50%	0%	$67.23	$71.21	6%
Allegion PLC	ALLE	55%	45%	0%	$82.15	$89.78	9%
Masco Corp.	MAS	68%	32%	0%	$42.19	$44.63	6%
Whirlpool Corp.	WHR	36%	64%	0%	$166.51	$187.13	12%
Mohawk Industries Inc.	MHK	78%	22%	0%	$275.34	$294.84	7%
Williams-Sonoma Inc.	WSM	14%	64%	22%	$50.90	$49.57	-3%
Leggett & Platt Inc.	LEG	44%	56%	0%	$46.33	$54.86	18%
Helen of Troy Ltd.	HELE	60%	20%	20%	$90.90	$104.25	15%
Aaron’s Inc.	AAN	82%	18%	0%	$36.02	$47.14	31%
Tempur Sealy International Inc.	TPX	36%	55%	9%	$61.00	$66.14	8%
Johnson Controls International PLC	JCI	37%	58%	5%	$38.25	$44.29	16%
Tri Pointe Group Inc.	TPH	58%	42%	0%	$17.42	$17.95	3%
USG Corp.	USG	10%	76%	14%	$36.92	$33.71	-9%
Source: FactSet

While there are majority “buy” or equivalent ratings for 18 out of the ETF’s 36 components, the analysts’ price targets for most of them aren’t particularly aggressive.

A longer-term look

The first table showed sales per share and gross margin. It’s good if both are going up, of course, but these figures don’t incorporate other expenses or other problems companies face.

There’s a new tool that you can use to make useful comparisons of companies to their industry competitors. It’s called return on corporate capital (ROCC) and was recently developed by the Shareholder Forum to help individual investors screen companies for quality.

The calculation is similar to return on invested capital (ROIC), but there are some differences. There’s no strict definition for ROIC. ROCC is calculated the same way for every company that’s publicly traded in the U.S., using annual data filed with the Securities and Exchange Commission: Net income plus interest expense and income taxes, divided by the ending balance of total assets less current liabilities other than interest-bearing debt.

The idea is to measure how good a company’s management is at investing the money it raises or borrows. Each company’s ROCC is compared to its industry competitors, based on the company’s Standard Industrial Classification (SIC), which also comes from SEC filings. In other words, the subject company’s numbers are excluded from those of its industry SIC group when the comparison is made. The comparisons are available here for free.

ROCC comparisons are most meaningful within industries. Banks, for example, tend to have lower ROCC than many other industries because it is their business to leverage capital by gathering deposits and borrowing money.

Here’s a sample comparison of LGI Homes Inc. LGIH to its SIC industry group:

The Shareholder Forum

You can see that the company’s average ROCC for five years has been well above that of its industry competitors, and that the numbers have been sloping upward over the past two years.

Here are the components of the SPDR S&P Homebuilders ETF again, in the same order, with average ROCC comparisons to their industry groups.

Company	Ticker	Five-year average ROCC	Five-year average ROCC for SIC group	SIC group
LGI Homes Inc.	LGIH	13.8%	6.2%	Operative Builders
Installed Building Products Inc.	IBP	11.8%	7.4%	General Building Contractors - Residential Buildings
PulteGroup Inc.	PHM	7.0%	6.1%	Operative Builders
William Lyon Homes Class A	WLH	4.4%	6.3%	Operative Builders
Century Communities Inc.	CCS	6.8%	7.1%	Operative Builders
iRobot Corp.	IRBT	12.5%	10.4%	Household Appliances
M.D.C. Holdings Inc.	MDC	4.6%	6.3%	Operative Builders
Toll Brothers Inc.	TOL	4.7%	6.4%	Operative Builders
Lowe’s Cos.	LOW	15.5%	29.2%	Retail - Lumber and Other Materials Dealers
Lennar Corp. Class B	LEN.B	7.0%	9.1%	General Building Contractors - Residential Buildings
Lennar Corp. Class A	LEN	7.0%	9.1%	General Building Contractors - Residential Buildings
D.R. Horton Inc.	DHI	11.1%	5.2%	Operative Builders
Taylor Morrison Home Corp. Class A	TMHC	0.3%	6.6%	Operative Builders
Owens Corning	OC	6.1%	0.7%	Abrasive Asbestos and Misc. Nonmetallic Mineral Products
A.O. Smith Corp.	AOS	16.9%	9.5%	Household Appliances
M/I Homes Inc.	MHO	6.0%	6.2%	Operative Builders
Lennox International Inc.	LII	27.1%	18.9%	Air Conditioning and Warm Air Heating Equipment and Commercial and Industrial Refrigeration Equipment
Home Depot Inc.	HD	31.0%	14.6%	Retail - Lumber and Other Materials Dealers
CalAtlantic Group Inc.	CAA	6.1%	6.2%	Operative Builders
TopBuild Corp.	BLD	6.1%	3.1%	Construction Special Trade Contractors
NVR Inc.	NVR	19.9%	5.6%	Operative builders
Cavco Industries Inc.	CVCO	8.3%	N/A	Mobile Homes
Bed Bath & Beyond Inc.	BBBY	32.8%	19.0%	Retail - Home Furniture, Furnishing and Equipment Stores
Fortune Brands Home & Security Inc.	FBHS	10.0%	6.7%	General Building Contractors - Residential Buildings
Allegion PLC	ALLE	17.9%	-34.4%	Detective, Guard and Armored Car Services
Masco Corp.	MAS	15.4%	4.8%	Millwood, Veneer, Plywood and Structural Wood Members
Whirlpool Corp.	WHR	9.5%	14.5%	Household Appliances
Mohawk Industries Inc.	MHK	9.7%	N/A	Carpets and Rugs
Williams-Sonoma Inc.	WSM	30.4%	26.5%	Retail - Home Furniture, Furnishing and Equipment Stores
Leggett & Platt Inc.	LEG	15.8%	14.6%	Household Furniture
Helen of Troy Ltd.	HELE	10.3%	N/A	Electric Housewares and Fans
Aaron’s Inc.	AAN	13.8%	7.2%	Services - Equipment Rental and Leasing
Tempur Sealy International Inc.	TPX	15.2%	15.1%	Household Furniture
Johnson Controls International PLC	JCI	11.4%	8.4%	Misc. Business Services
Tri Pointe Group Inc.	TPH	11.4%	6.3%	Operative Builders
USG Corp.	USG	9.5%	5.8%	Concrete, Gypsum and Plaster Products
Source: The Shareholder Forum

If fewer than five years of data is available for a company, the average ROCC used for the comparisons in the table is for the number of full years of data available. If there is no average ROCC number available for a company’s competitors, it means there are fewer than four other publicly traded companies within that SIC group.

You can review more detailed ROCC data for each company here.

Philip

van Doorn

Philip van Doorn covers various investment and industry topics. He has previously worked as a senior analyst at TheStreet.com. He also has experience in community banking and as a credit analyst at the Federal Home Loan Bank of New York.