3 Homebuilding Stocks to Play a Seasonality Rally

Analyst observes 18% seasonality rally between October and April

Get ready for a golden six-month period for homebuilding stocks. That's according to research conducted by Fundstrat analyst Thomas J. Lee, as cited by MarketWatch. Lee notes that, over the past 20 years, homebuilder stocks have typically bottomed out near the end of October and then risen, on average, 18.3% through the end of April.

However, considering that the group has rallied 49% so far this year, does this astute observation hold true? Yes, says Lee. He argues that, in 2012, homebuilders were already up 35% before the golden six-month period started and went on to climb an additional 18%.

The Fundstrat analyst added weight to his thesis by pointing out that the seasonality rally had only failed once in the past 10 years – in 2015. He also observed that homebuilders tend to fall by about 4% between May and September. "We are not entirely sure why this strong seasonality exists, but it may have to do with the Spring selling season for housing," Lee said, per the same MarketWatch story.

As well as a favorable seasonality, the sector also continues to benefit from lower mortgage rates and improving affordability that has helped drive demand. A recent pullback in homebuilding stocks provides a buying opportunity for traders who want to position for a move higher based on Lee's homebuilder calendar theory. Below, we take a more detailed look at three industry leaders and hammer out several trading plays.

D.R. Horton, Inc. (DHI)

D.R. Horton, Inc. (DHI) constructs and sells homes across 29 states, targeting entry-level, move-up, luxury, and active buyers. The Arlington, Texas-based homebuilder also offers mortgage financing and title agency services through its financial services segment. The company yesterday disclosed a fiscal fourth quarter (Q4) profit of $1.35 per share on revenues of $4.98 billion. Both figures surpassed consensus estimates and grew of 10.7% and 10.9%, respectively, from the year-ago quarter. Trading at $54.27 with a market capitalization of $20.10 billion and offering a 1.17% dividend yield, the stock has advanced 53.20% year to date (YTD), outpacing the homebuilders' industry average by about 4% as of Nov. 13, 2019.

Since the 50-day simple moving average (SMA) crossed above the 200-day SMA early in the second quarter to generate a "golden cross" buy signal, the homebuilder's share price has indeed trended higher. After two weeks of profit-taking, the stock jumped to a new 2019 high Tuesday after D.R. Horton released its impressive quarterly results. Those who take a long position should consider using a trailing stop to let profits run. For instance, raise stop-loss orders underneath each subsequent higher swing low. Traders who use this exit strategy would start by placing an initial stop under the current swing low at $50.15.

Chart depicting the share price of D.R. Horton, Inc. (DHI)

Meritage Homes Corporation (MTH)

Scottsdale, Arizona-based Meritage Homes Corporation (MTH) designs and builds single-family homes across the western, southern, and southeastern parts of the United States. In recent years, the $2.66 billion homebuilding company has undergone a strategic shift to become a pure-play entry-level and first-move-up builder. The firm's Q3 adjusted earnings came in at $1.79 per share, above the Street expectation of $1.49, to register an impressive 35% year-over-year improvement. Higher home closing revenues, along with improved gross margins and greater overhead leverage, added to the company's bottom line. While Meritage Homes stock doesn't pay a dividend, YTD price appreciation of 89.30% as of Nov. 13, 2019, has kept investors satisfied.

Meritage Homes' share price trended steadily higher between January and July before gaining further upside momentum in late August after delivering better-than-expected Q2 results. Since setting a 52-week high on Oct. 25, the stock has retraced to around $67.50, where price finds support from a trendline stretching back to late December 2018. Those who enter here should aim to book profits on a retest of the 52-week high at $76.82 – a move of 11% from Monday's $69.10 closing price. Consider cutting losses if the stock fails to hold above this month's low at $66.48.

Chart depicting the share price of Meritage Homes Corporation (MTH)

Taylor Morrison Home Corporation (TMHC)

Taylor Morrison Home Corporation (TMHC) designs, builds, and sells single-family and multi-family homes as well as develops lifestyle and master-planned communities. It also offers financing services to customers through its mortgage operations segment. Earlier this month, the homebuilder announced that it had agreed to acquire William Lyon Homes (WLH) for $2.4 billion. The transaction expands the company's reach in Washington, Oregon, and Nevada and is expected to help realize up to $80 million in annualized synergies. Taylor Morrison reported in-line Q3 earnings of 65 cents per share, while revenues for the period grew 6.7% from the September 2018 quarter. As of Nov. 13, 2019, the company's shares have added almost 44% on the year but have fallen 10.82% over the past month.

An eight-month uptrend in Taylor Morrison shares ended abruptly in late October, with the retracement recently accelerating on news of the firm's takeover. In Tuesday's trading session, the stock continued its rebound from the support of a horizontal line and the 200-day SMA. Furthermore, the relative strength index (RSI) shows an oversold reading below 30, increasing the chance of bargain hunters entering the stock. Those who buy at current levels should place a stop order somewhere below $21 and set a profit target at either $25 or $28 – both crucial resistance areas.

Chart depicting the share price of TMHC.
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