Wall Street says these stocks are better than AI right now

This year’s rally in homebuilding stocks has outstripped even the AI-fueled tech boom, and if analysts are to be believed, that outperformance is set to continue.

Wall Street price targets show an expected return potential of 16% over the next 12 months for U.S. homebuilders, ahead of the 13% seen for the broader market and the tech-heavy Nasdaq 100 Index. That’s on top of 2023’s 47% surge in builders’ stocks, which has already surpassed the Nasdaq’s 41% climb.

Two firms, M/I Homes Inc. and Green Brick Partners Inc., have more than doubled this year as the group capitalizes on an increasingly tight housing market. While decades-high mortgage rates have stymied existing home sales, fears of an economic slump are abating, leaving analysts optimistic homebuilder gains can extend.

“To the extent that interest rates continue to stabilize, absent a medium to large recession, we expect solid book value growth alongside very strong balance sheets over the next two years,” wrote Michael Rehaut, an analyst with JPMorgan Chase & Co. “Homebuilding stocks should continue to benefit from solid fundamentals.”

Among builders with at least three brokers covering the firm, Cavco Industries Inc. — a maker of RVs and manufactured homes — has the highest expected return, followed by Meritage Homes Corp., Tri Pointe Homes Inc. and industry giant D.R. Horton Inc. The 20 analysts covering luxury homebuilder Toll Brothers Inc., which reported its third-quarter results last Tuesday, have an average expected return of roughly 14%.

Even with the rally, the stocks are hardly overvalued. In fact, on Monday the group’s 14-day relative strength index was flirting with its most oversold signal in almost a year, before the shares rebounded for three straight sessions. 

Wednesday’s gains came on the heels of a US pending home sales readout, which serves as a leading indicator. Data showed contract signings to buy existing homes staged a surprise advance for a second straight month in July. But the uptick is still not strong enough to convince prospective homebuyers that the resale market is seeing better days. 

Pending home sales will be subdued until mortgage rates are reined in dramatically, according to Kieran Clancy, senior US economist at Pantheon Macroeconomics. That won’t happen until later this year or early next year, he said in a note to clients. 

Meanwhile, homebuilders continue to offer incentives to reduce the financial burden attributed to rising rates, making it harder for desperate buyers to resist. 

If rates continue to rise, Citigroup’s Anthony Pettinari expects homebuilders to sacrifice price while ramping up incentives to maintain pace.

“Rate buy-downs will likely remain a key element of builder pricing strategy as long as rates remain elevated,” he wrote in a note Tuesday.