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TheStreet Open House

Homebuilder Stocks: Don't Chase the Mojo

Stocks in this article: ^HGX PHM DHI LEN TOL RYL

NEW YORK ( TheStreet) -- I cannot find an industry that has performed better than the homebuilders since the market lows of Oct. 4, 2011. The PHLX Housing Sector Index is up an incredible 89.3% since bottoming on Oct. 4, 2011, which includes a gain of 35.5% year to date.

Monday we learned that the National Association of Home Builders /Wells Fargo Housing Market Index rose six points to 35 in July, and Wednesday morning we learned that housing starts rose a better-than-expected 6.9% in June, to an annual rate of 760,000 units. The important single-family starts rose 4.7%, to an annual rate of 539,000. Building permits fell 3.7% to 755,000.

With the six-point rise to 35, the NAHB/HMI notched its largest one-month gain in nearly a decade, with the index at the highest level since March 2007, before we knew we were in the "Great Credit Crunch".

The strong rise in the HMI is evidence that builder confidence is on the rise, but remember that a reading has to be above 50 to describe the market for new homes as "good". At 35, HMI is below 50 and thus homebuilders still view the market for new homes as "poor".

RealtyTrac recently reported that there are 5.6 million mortgages that have just entered delinquency or are in foreclosure. With this overhang, the builders will continue to have issues with poor appraisals. In addition, home buyers face continued tight lending standards when applying for a mortgage.

The HMI has been below 50 since May 2006, a month or so before home prices peaked in June/July 2006. The low for this index was 8 in January 2009.

The Housing Market Index peaked at 72 in June 2005. On June 21, 2005, I wrote this for RealMoney.com: "Homebuilders' Charts Testing Hearts" .

Back on June 21, 2005, I viewed the homebuilders as having the hottest momentum (mojo) in the stock market at that time. A ValuEngine screening of eight homebuilder stocks showed them all overvalued, with parabolic chart patterns on these names.

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