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Monday, December 18, 2006

Homebuilders Revisted

Certainly a dominant theme of 2006 is the housing/real estate bubble and its impact on homebuilder stocks. I briefly wrote about homebuilders in mid-September, basically saying that a small speculative position might not be a bad idea, but that I wasn’t yet comfortable with the sector to allocate heavily into it. I only mentioned one stock in that post, NVR, Inc (NVR), which we no longer analyze for alpha. However, since September 14th, NVR has outperformed the market by over 45%, with the stock up 12.28% compared to 8.42% for the S&P 500.

It’s hard to argue against the sector bottoming in July, especially when looking at the graph below. Anything is possible, which means a sudden shift to the down-side should at least be considered prior to investment. But after a few months of patience, and with the index ($RUF) recently crossing its 200-day MA, I’m more comfortable recommending exposure to homebuilders, especially going into 2007. There’s a lot of noise out there about private equity and hedge funds beginning to stuff their war chest with homebuilders, and although I’m not recommending a significant allocation, I do suggest finding some exposure ahead of the masses.

Below is a list of eight companies that investors should look to for homebuilder exposure. The first four are currently AAS “buy” recommended with the last four “neutral/hold” recommended. Also listed is the date of the most recent “buy” recommendation and the stock’s performance since that date.
  1. The Ryland Group, Inc (RYL Buy 11/14/06 13.77%)
  2. KB Home (KBH Buy 11/14/06 8.77%)
  3. Lennar Corp. (LEN Buy 11/15/06 8.31%)
  4. M.D.C Holdings Inc. (MDC Buy 11/10/06 10.39%)
  5. D.R. Horton Inc. (DHI Neutral 11/14/06 10.69%)
  6. Hovnanian Enterprises Inc. (HOV Neutral 11/15/06 14.37%)
  7. Meritage Homes Corp. (MTH Neutral 11/30/06 -2.35%)
  8. Toll Brothers Inc. (TOL Neutral 11/16/06 9.05%)
It might not be a bad idea to hedge a long homebuilder’s position by either buying puts or taking a short position in building/construction products. My thoughts are that if homebuilders revert again into a bearish trend, companies associated with building and construction will likely under-perform as well, making a short position profitable and somewhat mitigating the losses from the long holding. Possible short positions include:
  1. The Black & Decker Corp. (BDK Short/Sell 11/29/06 -7.63%)
  2. Fastenal Co. (FAST Short/Sell 10/31/06 -11.78%)
  3. The Stanley Works (SWK Short/Sell 10/20/06 -1.70%)
Short-Term Technical Indicators – Weakness in Breadth and Volume in the Dow is reason to be concerned the trend might be on its last legs. Of course there’s been weakness in those indicators for months now and we continue to see new highs. The MACD, Stochastic and Relative Strength indicators improved after Friday’s close, lending credence to higher futures this morning in all three major indexes.

Long-Term Market Model – Bearish since December 8th.

Investor Sentiment – Both the VIX and VXN edged higher on Friday, as did all three Put / Call Ratios. In terms of weekly sentiment indicators, the Odd-Lot Short Ratio and the Public Specialist Short Ratio gained ground while the Dividend Yield Spread remained unchanged. Additionally, the number of S&P 500 commercial hedger long contracts increased by over 35,000 for the week while the number of short contracts increased by almost 32,000, with the difference between the two decreasing from the prior week’s reading. This reflects institutional investor sentiment perhaps shifting to neutral ground.

Asset Allocation – 100% invested within the actively-managed, alpha producing portion of the overall portable alpha portfolio.

Beta Exposure and Portable Alpha Generation
Date = Date of AAS “Buy” or “Short/Sell” Recommendation

Top Rated Major Market Derivative – NYSE 100 (NYC 11/6/06)

Top Rated Style-Box Derivative – iShares Morningstar Large Cap Value (JKF 11/29/06)

Top Rated Sector Derivative – iShares Dow Jones Energy (IYE 11/10/06)

Today’s Top “Buy” Recommended Stocks
  1. RTI International Metals Inc. (RTI 10/11/06)
  2. Veritas DGC Inc. (VTS 7/28/06)
  3. Alleghany Technologies Inc. (ATI 10/5/06)
  4. Daktronics Inc. (DAKT 10/31/06)
  5. F5 Networks Inc. (FFIV 9/20/06)
  6. Robbins & Myers Inc. (RBN 8/10/06)
  7. Chaparral Steel Co. (CHAP 11/1/06)
  8. NBTY, Inc. (NTY 12/5/06)
  9. Albemarle Corp. (ALB 8/9/06)
  10. Brown Shoe Company Inc. (BWS 9/12/06)
Today’s Top “Sell” Recommended Stocks
  1. SanDisk Corp. (SNDK 10/20/06)
  2. Chico’s FAS Inc. (CHS 12/6/06)
  3. EGL Inc. (EAGL 10/18/06)
  4. Watsco Inc. (WSO 12/6/06)
  5. Cree Inc. (CREE 10/27/06)


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