Building momentum: Homebuilder sector primed for breakout

Key Points

• The homebuilder sector surged in previous months due to the Federal Reserve's optimism for interest rate cuts in 2024.
• Demand for new homes rises amid a shortage of inventory in the resale market, with Lennar projecting a 10% increase in home deliveries for 2024.
• The sector's ETF shows a bullish consolidation pattern near its 52-week high, hinting at a potential breakout.

The homebuilder sector in the United States has been on fire over the previous year, mainly thanks to the Federal Reserve's growing optimism for interest rate cuts throughout 2024. 

Over the previous year, the sector ETF has significantly outperformed the broader market. During that period, the SPDR S&P 500 Homebuilders ETF NYSE: XHB has shot up over 41% compared to the overall markets, with SPDR S&P 500 ETF Trust NYSE: SPY returning slightly over 20%. Specific individual heavyweight holdings of the ETF have posted even greater returns, with shares of Lennar returning close to 50% and PulteGroup just shy of 100% over the same period, not accounting for dividends. 

Demand for new homes soar

The housing industry has seen a boost in demand for new homes due to a shortage of inventory in the resale market. Stuart Miller, co-CEO of Lennar, highlighted this shortage during the company's fiscal fourth-quarter earnings call in December, noting a strong demand for affordable housing. 

Many homeowners are holding onto their low-interest mortgages, causing the existing home market to remain quiet. The industry expects an increase in demand as interest rates are anticipated to decrease, with Lennar projecting a 10% rise in home deliveries for 2024. Miller emphasized the company's commitment to addressing the ongoing housing shortage and expressed optimism that lower interest rates will stimulate demand.

That pent-up demand is reflected in the chart of the homebuilders' ETF as XHB continues to consolidate in a tightening range near its 52-week high. 

So, as the bullish sentiment grows and the chart indicates that a breakout might be brewing, is now the time to invest? Well, let’s take a closer look.

Sector ETF readies for a breakout

After showing strong growth and outperforming the market in 2023, the sector has maintained impressive performance this year. Although its overall change in value for the year is minimal, a technical analysis reveals a bullish consolidation pattern. The sector's ETF has been consolidating above rising key moving averages, suggesting a longer-term upward trend is taking shape and stabilizing. Moreover, the consolidation near its highest point in the past 52 weeks indicates a probable breakout, with buyers showing interest in the stock at higher prices.

While the overall sector looks primed for higher prices, how are some of its top-performing holdings of 2023 shaping up in the new year? Let’s take a closer look at two of its top-performing holdings from the previous year to see whether or not they share the same sentiment going forward. 

PulteGroup NYSE: PHM

PHM is the sector ETF’s seventh largest holding with a 3.93% weighting in the ETF. The homebuilder has been a standout performer in the sector with its almost 100% surge higher over the previous year. 

Notably, analysts have consistently been bullish on the stock and maintained their Moderate Buy rating for over a year, with twelve analysts rating the stock as a Buy and five as a Hold. Most recently, on January 11, The Goldman Sachs Group boosted its target from $91 - $105. 

Like the overall sector, PHM is consolidating near its high, in the upper region of its 52-week range, indicating positive momentum and overall strength. With a steady uptrend, bullish consolidation, and RSI not indicating overbought territory, PHM looks primed to make new 52-week highs in the short term. 

Lennar NYSE: LEN

LEN is the thirteenth largest holding of the ETF, with a weight of 3.72%. Like PHM, shares of Lennar offer an attractive dividend yield of 1.35% and a fair valuation with a P/E of 10.78.

However, despite the positive metrics and outperformance over the previous year, with its stock up almost 50%, analysts are currently mixed on the stock. Based on seventeen analyst ratings, the stock has a Hold rating and consensus price target forecasting over 5% downside. While its rating aligns with the consensus S&P 500 rating, it's below the consensus rating for construction companies, a Moderate Buy.

From a charting perspective, though, it has set up similarly to PHM and the overall sector, as shares are consolidating above rising moving averages, near its 52-week high, pointing at a potential breakout in the near term.