An economy that's been good for the rich makes shares of high-end homebuilders a better bet than those focused on entry-level buyers, according to one Wall Street analyst.
Keefe Bruyette & Woods' Jade Rahmani this week upgraded luxury builder Toll Brothers Inc. to outperform and downgraded broader-based Lennar Corp., saying that the former will be better able to defend margins given the economic backdrop.
READ MORE:
"The K-shaped recovery theme has become more pronounced," Rahmani said in a phone interview, citing surging gasoline prices, accelerating inflation and mortgage interest rates that have been climbing, contrary to expectations, and a somewhat uncertain job market, all of which pressures affordability. "If you're buying a house, it's really challenging," he said.
At the same time, an "ebullient" stock market is making wealthy people feel more comfortable, Rahmani said, flagging
The latest home sales data showed the median price of a new single-family home increased 2.2% in April from a year ago to $422,500. Fewer houses priced less than $300,000 sold, while more contracts were signed on homes in the $400,000 to $500,000 range. In May, the median sales price of an existing home climbed 1.3% from a year ago to $429,300.
Toll's average home price tops $1 million, and the company is seeing order growth and solid gross margins, giving them a leg up in an incentive-heavy environment. Toll has been offering prospective buyers an average incentive worth around 8% to spur sales, mostly via upgrades like granite counter-tops or adding a home office, according to Rahmani. The company gave an upbeat outlook and reported strong margins in its recent earnings.
Meantime, Lennar's incentives have been running around 14%, all due to
Rahmani's new rating for Lennar was his first sell call for the stock since he started covering builders in 2010. The shift reflects issues including a drag on margins from the company's spun-off land-banking operation, Millrose Properties, in addition to broader considerations.
"I've soured on Lennar with management missteps," Rahmani said. Nearly half of the 20 analysts Bloomberg tracks have sell ratings on shares of Lennar, while Toll Brothers has one out of 20 analysts. Toll shares have rallied 8.9% so far this year, versus a 7.6% drop for Lennar and a 2.4% gain for the S&P homebuilder index.
The downgrade was a "risky" one to make just before the company's earnings, he said. Still, results out Thursday after market close showed third quarter forecasts for new orders and deliveries fell below analyst expectations. Lennar's Chief Executive Officer Stuart Miller said headwinds including elevated mortgage rates, constrained affordability, inflation and cautious consumer sentiment weighed on results and prompted the company to trim its full-year delivery forecast.
