In a recent homebuilding note, Jay McCanless, an analyst for Sterne Agee, encourages investors to take advantage of the weakness created by national housing reports. The analyst recommends buying Meritage Homes, D.R. Horton and The Ryland Group. 

“We believe investors should buy into any stock price weakness created by April’s housing starts data which, at a seasonally adjusted annual rate of 853,000 homes, was below consensus estimates of 969,000 homes,” McCanless said in the report. 

According to McCanless, national housing data is not typically reflective of market conditions for Sterne Agee’s coverage. We estimate our coverage has approximately 80% of its neighborhoods in 25 cities/metropolitan statistical areas, says McCanless. 

“Since these 25 MSAs account for less than 10% of the 360 total MSAs in the U.S., we believe national housing data is generally not reflective of market conditions for our coverage,” he said.

“Consequently, we believe investors should use any stock price weakness created by national macroeconomic reports because the current market conditions (supply, demand and pricing) for our builders are generally better than the national housing picture.”

McCanless expects bulls to focus on month-over-month building permit growth, implying growing housing demand. The seasonally adjusted annual rate of building permits increased 14.3% month-over-month to 1.017 million from 890,000 in March, he writes. 

On the other hand, he says, bears will probably focus on slower current construction. April’s seasonally adjusted annual rate of total housing starts decreased 16.5% sequentially to 853,000 units which included a 2.1% month-over-month decline in the seasonally adjusted annual rate of single-family starts to 610,000 units and a 37.8% month-over-month decline in multifamily starts to 234,000 units.

It is important to note that unadjusted data remains solidly positive and is more reflective of current market conditions for builders. 

According to McCanless, unadjusted single-family housing starts rose 22.1% year-over-year in April and year to date, single-family starts are 26.9% higher year-over-year. Single-family building permits increased 35.3% year-over-year in April and are 26.4% higher on a year-to-date basis.

McCanless encourages investors to buy Meritage Homes, D.R. Horton and The Ryland Group because the fundamental backdrop remains positive. 

“We believe builders’ pricing power can increase in 2013 as competitive supply comes off the market, and we estimate the risks of upside EPS surprises from pricing power and available inventory outweigh the risks of a downside EPS surprise in the current environment,” he added. 

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