Nicholas Yulico
This column originally posted on RealMoney.com at 9:03 a.m. EDT. For more information about subscribing to RealMoney, please click here.
With homebuilder stocks down about 30% from their recent highs in April, it's tempting to bottom-fish in a search for quality buys in the sector. The problem with bottom-fishing, however, is that you run the risk of catching the bottom feeders -- you know, the ugly, flat fish with the sideways mouths that suck up all the garbage that accumulates in fish tanks and on the ocean floor. Ryland (RYL Quote - Cramer on RYL - Stock Picks) and Pulte Homes (PHM Quote - Cramer on PHM - Stock Picks) -- two homebuilders I've been flagging as overvalued in the Bricks and Mortar mock portfolio -- are good examples of bottom feeders. Both companies are working overtime to clean up the waste created by the excessive feeding frenzy of the U.S. housing boom, and their stocks should be avoided for now. Buying either of these stocks today amounts to a bet that housing prices will improve in 2009, leading to the homebuilding industry's return to profitability. There are, however, numerous reasons to be skeptical of such thinking. The tone from the Bank of America homebuilding conference last week was gloomy. Pulte executives said "pricing power in the industry is non-existent." Several builders talked about how reining in costs was the strategy for 2008. Meanwhile, the price of oil has generally increased costs in the near term, a Ryland executive said. In its typical volatile fashion, the SPDR S&P Homebuilder ETF (XHB Quote - Cramer on XHB - Stock Picks) is now down 5% this year, a far cry from the 24% gain it sported in early April. To show why the sector remains a value trap, today I'm going to focus my analysis on Ryland (although Pulte and other builders likely to survive the downturn sit in a similar boat). The two main questions for investors to ask about homebuilders are: When will earnings return and how do we value these companies?
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