2023-10-10 14:00:00 ET
Summary
- DHI's performance over the past few quarters exceeded expectations, with growing home sales and backlog, despite the elevated borrowing costs and uncertain macroeconomic outlook.
- The gap of median sales price between existing and new houses has narrowed to 5.4% by August 2023, compared to 11% in August 2022 and 14.7% in August 2019.
- These have naturally resulted in increased demand for new homes, as demonstrated by DHI's growing net sales orders of $8.7B (+1.1% QoQ/ +26% YoY).
- However, the US housing market may remain impacted over the next few years of elevated interest rate environment, potentially delaying the stock's eventual recovery.
- Combined with DHI's retest of the $100s support levels, the stock is only suitable for investors whom are patient and have higher risk appetites.
The Cyclical Investment Thesis Remains Robust For The New Homebuilder, D.R. Horton
D.R. Horton ( DHI ) is a stock that requires no introduction, as the largest homebuilder by volume in the US since 2002.
With a well-diversified home portfolio ranging between $200K and $1M in sale prices across 33 states, it is unsurprising that the company commands a robust market share of 13% ( inline QoQ / +2 points YoY) in US single-family new homes sales as of Q3'23.
DHI's performance over the past few quarters exceeded expectations indeed, with growing home sales and backlog, despite the elevated borrowing costs and uncertain macroeconomic outlook.
The US 30Y National Fixed Rate Mortgage Average
For example, the 30Y National Fixed Rate Mortgage Average is still highly inflated at 7.49% (+0.59 points MoM/ +0.83 YoY) as of October 05, 2023, compared to the 2019 averages of 3.8%.
The US Existing Home Sales
The US housing shortage is likely triggered by the reduced existing home sales at 4.04M units in August 2023 (-0.03M MoM/ -0.4M YoY) as well, compared to the hyper-pandemic era peak of over 6.5M homes and August 2019 levels of 5.25M homes.
The 5Y US Median Home Prices
The combination of reduced inventory and robust housing demand has directly triggered the expansion in the US median home prices to $420.28K by August 2023 (-2.9% YoY/ +47.3% from August 2019 median of $285.27K).
Based on these developments, Chen Zhao, lead of Redfin's ( RDFN ) economics research, also projects that home prices may remain elevated moving forward:
The Federal Reserve still has more work to do in its battle against inflation, which means mortgage rates are unlikely to come down anytime soon. As long as rates remain high, homeowners will be reluctant to sell. And that lack of homes for sale will keep prices high because it means buyers are duking it out for a limited supply of houses. ( Seeking Alpha ).
For now, DHI has been able to report an excellent home/ land sales of $9.1B ( +17.1% QoQ / +5.1% YoY) in FQ3'23. This is on top of its impressive home/ land sale gross margins of 23.2% (+1.5 points QoQ/ -6.7 YoY), compared to the FY2019 margins of 20% (-1.4 points YoY).
Part of its tailwinds may be attributed to the management's price adjustments and increased incentives "to address homebuyer affordability challenges caused by higher mortgage rates."
These strategies may have narrowed the gap of the median sales price between existing homes and new houses to only 5.4% at $407.10K and $430.40K by August 2023, respectively. This is compared to 11% in August 2022 and 14.7% in August 2019.
These developments have naturally resulted in increased demand for new homes, as demonstrated by DHI's growing net sales orders of $8.7B in the latest quarter (+1.1% QoQ/ +26% YoY).
Despite these incentives, the homebuilding company still records a robust Return On Equity [ROE] of 24.3% ( -10.8 points sequentially ) and a Homebuilding Return On Inventory [ROI] of 31.8% over the LTM (-9.9 points sequentially).
These numbers also well exceed its FY2019 levels of 17.2% (-0.4 points YoY) and 18.1% (-2.1 points YoY), respectively.
As a result of its outperformance thus far, investors need not fret about DHI's growing total inventories of $22.98B in the latest quarter (+1.8% QoQ/ +6.1% YoY) in our opinion, which are compared to its FY2019 levels of $11.28B (+8.5% YoY).
This is because 44.8% of its total inventories is attributed to residential lots held for sale, 14.4% is attributed to its ongoing rental portfolio, and ~33.7% is attributed to construction in progress.
With only a small percentage of its total inventories attributed to completed and unsold units at ~6.9%, based on our estimation, it is apparent that new housing demand remains red hot no matter the uncertain macroeconomic outlook.
The estimated numbers above are based on the DHI management's FQ3'23 report here:
- At June 30, 2023, the consolidated balance sheet included $1.9 billion of single-family rental property inventory consisting of 7,570 homes, of which 6,270 were completed , and 3,650 lots, of which 1,440 were finished .
- At June 30, 2023, the consolidated balance sheet included $1.4 billion of multi-family rental property inventory consisting of 8,800 units, of which 6,920 units were under active construction and 1,880 units were completed .
The DHI management has also offered a FQ4'23 consolidated revenue guidance of $9.9B (+1.8% QoQ/ +2.8% YoY) and home sales gross margins of 23.75% at the midpoint (+0.45 points QoQ/ -4.55 YoY ), compared to FQ4'21 margins of 21% .
For now, the Fed expects to achieve its target inflation rate of 2% only by 2026, implying that the higher interest rate environment may also continue for a little longer.
These factors point to DHI's likely outperformance over the next few years, since the gap between existing and new house median prices may remain narrow for a little longer, naturally sustaining its profitability and backlog as discussed above.
So, Is DHI Stock A Buy , Sell, or Hold?
DHI Valuations
For now, DHI mostly trades at impacted FWD valuations compared to its 5Y means, though still improved compared to its 1Y means and the sector medians, implying Mr. Market's confidence in its outperformance compared to its peers.
The Consensus Forward Estimates
For example, DHI is expected to sustain its impressive pandemic era-like outperformance ahead, with the consensus FY2025 estimates implying more-than-doubled top line expansions and more-than-tripled bottom line expansions against the pre-pandemic levels. This is on top of the normalized EPS CAGR of +38.3% between FY2016 and FY2022.
This growth rate well exceeds the second and third-largest homebuilding companies in the US, Lennar Corporation ( LEN ) at a normalized CAGR of +26.4% and PulteGroup ( PHM ) at +28% between FY2016 and FY2022, demonstrating why we believe DHI deserves premium valuations.
Based on the consensus FY2026 adj EPS estimates of $15.66 and its adj FWD P/E valuations of 7.83x, we are also looking at a long-term price target of $122.61, implying the DHI stock's decent upside potential of +17.5% from current levels.
DHI 5Y Stock Price
Then again, thanks to DHI's impressive rally since 2020, the stock's forward dividend yield of 0.96% appears lackluster compared to its 5Y average of 1.09% and sector median of 2.51%.
With it currently retesting its previous 2021 and 2022 resistance levels in the $100s range, there may also be moderate volatility in the near term.
As a result, while there appears to be a relatively attractive risk/ reward ratio for DHI, warranting our Buy rating, interested investors may want to observe the situation for a little longer and add according to their dollar cost averages.
While market analysts from the National Association of Realtors ((NAR)) have already postulated the end of " the housing recession, " the August 2023 data still indicates a very tight housing supply at 3.3 months. This is compared to "the historical six months' supply , which is associated with moderate price appreciation" and "a healthy, balanced market ."
Since 82.4% of all American homeowners report an average fixed-rate mortgage rate of well below 5% , market supply may remain tight over the next few years of an elevated interest rate environment, potentially delaying the eventual recovery of the US property market.
While DHI is a homebuilding company and therefore, not directly exposed to the resale market condition, the ongoing headwinds may still pose uncertainty to its eventual valuation and stock recovery. This implies that the stock is only suitable for investors who are patient and have a higher risk appetite.
Lastly, investors must also note that the housing market is highly cyclical, with the macroeconomic outlook remaining uncertain over the next few years. While the labor market is still robust in September 2023, we believe that the housing market may remain sluggish moving forward, due to the imbalance between supply and demand.
This is a chicken and egg problem, in our opinion.
For further details see:
D.R. Horton: Likely To Outperform, Despite The Cyclical Housing Market