This four-part series tracks the recent US housing recovery and explains why investors should be both encouraged and cautious. Part 4 looks at pockets of investment opportunity on Main Street. Part 1 traced the recovery’s trajectory against the backdrop of the overall US economy. Part 2 examined affordability and interest rates, while Part 3 discussed why homebuilders’ stocks may potentially be overvalued.
Volatility brings with it pockets of opportunity for investors. We seek to make money by discovering ways that the market misunderstands or underappreciates the potential of a company or industry. While Wall Street is busy wrestling with questions about the magnitude and timing of interest rate changes, it may be forgetting the basics of the homebuilding business in the context of history — a memory lapse that can lead to overly optimistic stock valuations beyond our fundamental base case view.
But the market is very shrewd over time. Unless our constructive outlook on the Main Street housing market proves too conservative, multiple compression — a reduction of the price/earnings ratio — presents further downside risk to the housing group as Wall Street more accurately zeroes in on the normalized earnings profile of housing stocks.
Nonresidential construction remains anemic
A related area we’ve been watching for the past few years is nonresidential construction, which remains at anemic, recessed levels as well. Activity in this group typically picks up 12 to 18 months after a residential recovery. While we see encouraging signs and have positioned to participate in a recovery when it materializes, we haven’t yet seen the uptrend to the degree that matches the historical cadence at this point in the cycle.
About 40% of nonresidential construction is tied to commercial spending — retail outlets and strip centers, for example, which have been a bright spot in the nonresidential recovery. However, pressures on government spending, especially on health care and educational facilities as well as infrastructure, have lengthened the time frame for a recovery in the overall nonresidential complex thus far.
The fundamental backdrop in the US housing market is bullish for Main Street, with affordability at good levels and rising home prices helping bolster consumer confidence and activity across the economy. Regardless, we prefer to own well-managed companies with solid business models and pricing power not fully appreciated by the marketplace.
The information provided is for educational purposes only and does not constitute a recommendation of the suitability of any investment strategy for a particular investor. Invesco does not provide tax advice. The tax information contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. Investors should always consult their own legal or tax professional for information concerning their individual situation. The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals.
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