What's Ahead For Homebuilder ETFs?

With limited inventory and a strong reliance on new homes, the current housing market has created a unique opportunity for homebuilders and the companies that provide them with materials and supplies. Despite the market’s ups and downs, homebuilder ETFs had a solid performance in 2023, fueled by the performance of the major homebuilders. As we look ahead at some of the exchange-traded funds (ETFs) that follow this industry, we can see both opportunities and challenges ahead. 

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The State Of The Market

One key metric for homebuilders is how confident they are about the market. The National Association of Homebuilders polls homebuilders each month. In June, the NAHB/Wells Fargo Housing Market Index (HMI) showed that 29% of homebuilders cut prices to increase sales, the highest share since January. The overall discount remained constant at 6%. Using incentives and price reductions to make sales has become something homebuilders have leaned on heavily in recent months. 

Another factor is the cost of building a home. Homebuilders tend to focus on the three Ls: land, labor, and lumber. On at least one of those fronts, there appears to be good news. Rafe Jadrosich, a senior equity analyst with Bank of America, told CNBC that the cost of building a house dropped in 2023 and that "has continued into 2024 as lumber costs more recently have started to fall." 

Many market watchers are waiting for the pivot moment when rates for a 30-year fixed-rate mortgage dip below 6% or even 5%. The most recent Freddie Mac Primary Mortgage Survey reported a rate of 6.89%. Mortgage rates should also drop if we see a cut in the federal funds rate. While it may take time to see rates fall below 5%, even 6% opens the market to more buyers. The other impact is if a lower mortgage rate tempts those looking to sell an existing home to move off the sidelines. If that happens, homebuilders may find more competition than in recent months. 

While some may choose to construct their own stock portfolio related to home construction, investing in ETFs offers a less hands-on approach. These funds are designed to mirror popular benchmarks, ensuring they stay aligned with any shifts in the broader industry. 

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Meet The Major Players

The iShares U.S. Home Construction ETF (ITB) was launched in 2006. Its price is $106.56, using the Dow Jones U.S. Select Home Construction Index as a benchmark. This index includes homebuilders and companies in the building materials, furnishings, and home improvement sectors. The ITB ETF has an expense ratio of 0.40% and is weighted primarily toward homebuilding. Of its top 10 holdings, five are homebuilders with a heavy concentration in D.R. Horton DHI, Lennar LEN, and NVR NVR. Its performance last year was an impressive 68.91%, but it is down -1.15% so far this year.

The SPDR S&P Homebuilders ETF (XHB) was also initiated in 2006. As of this writing, its most recent price was $106.71, with a 52-week range of $71.21 to $106.71. The expense ratio is 0.35%. Of its top 10 holdings, only three are homebuilders, and its top three concentrations are HVAC companies Trane TT and Lennox International LII and materials maker Carlisle Companies CSL. It uses the S&P Homebuilders Select Industry Index as its benchmark. Its performance was 36.02% last year but only about 9.62% this year. 

The Invesco Building and Construction ETF (PKB) was founded in 2005 and has a most recent price of $70.25 and a 52-week range of $46.67 to $75.18. Its benchmark is the Dynamic Building & Construction Intellidex Index, which includes 30 building and construction companies. Its top 10 holdings only include one direct homebuilder, Pulte Group PHM, and it has a greater focus on building materials and suppliers. Its performance was 55.29% last year but only 6.98% this year. 

While these ETFs are not performing as well as they did last year, it's important to remember that the homebuilding industry is very dynamic. Investors looking to invest in these ETFs should know that construction is highly cyclical, and one year of performance does not tell the whole story for better or worse. Keep an eye on mortgage rates and home prices. Changes in those areas will have a direct impact on these ETFs. 

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