Homebuilders Are Drastically Mispriced Given Growth Outlook

Core Viewpoint - There is a significant disconnect between Wall Street homebuilder estimates and current stock valuations, suggesting that the sector is undervalued with potential for substantial earnings growth [1][2]. Earnings Growth Projections - D.R. Horton (DHI) is projected to grow earnings from $13.82 in 2025 to$20.24 in 2028, indicating a 46% growth [3]. - PulteGroup (PHM) and KB Home (KBH) are expected to grow earnings by 22% by 2027 [5]. - Toll Brothers (TOL) is projected to grow earnings by 32% by 2028 [7]. - Lennar (LEN) has the highest expected growth at 82% by 2028 [9]. Market Valuation - Homebuilders are trading at approximately 10X earnings, significantly lower than the S&P 500's 23X forward earnings [21]. - On an EV/EBITDA basis, homebuilders are valued at about 6X, indicating they are trading cheaply compared to historical norms [22]. Industry Dynamics - The U.S. housing market is believed to be undersupplied, with estimates suggesting a shortfall of 2 to 7 million units due to historical underbuilding from 2007 to 2020 [17][20]. - Current mortgage rates have created an affordability crisis, leading to lower demand than historical levels [15]. Business Model Strength - Homebuilders have improved their business models to be more capital light and operate with minimal debt, enhancing their resilience compared to the past [28][31]. - The sector has experienced strong free cash flow, which has been used to pay down debt and buy back shares, improving balance sheets significantly [31][49]. Margins and Market Share - D.R. Horton’s margins are currently around 18%, above historical averages [34]. - Publicly traded homebuilders have captured a larger market share, with homes sold being about double the volume during the housing bubble of 2005, despite overall industry output being lower [44]. Future Outlook - The consensus estimates suggest that 2024 and 2025 will be trough years for the industry, but growth is expected to resume thereafter [16]. - Even with a more moderated growth outlook, homebuilders present an attractive investment opportunity given their current pricing and growth potential [56].