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Buckingham: "Building Value"

05/20/2005 12:00 am EST


John Buckingham

Editor, The Prudent Speculator

"We’re now in year 7th year of the housing bubble, and we’re still waiting for the bubble to collapse," quips John Buckingham. Here, he explains his strategy, and highlights why he believes housing stocks are still a buy for those looking to build long-term value.

"We focus on buying undervalued and out-of-favor stocks. We cast a big net in order to broadly diversify our portfolios. And we hold our stocks for the long-term, on average for six and a half years. We look for stocks trading for low p/e ratios, low price to sales, and low price to book. Those are the big three. Sure, we focus on balance sheets and income sheets, and growth rates, etc. But we want to buy things that are on sale. The interesting thing in the investing world is that common sense seems to have been checked at the door. Most people would much rather buy a stock that has gone up than buy something that has gone down. But we are very different in our thinking. We buy stocks on sale usually at 50% of what we think it is worth over the long-term.

"I cannot believe the price of real estate in Southern California where I live, and it is understandable why many believe there is a housing bubble. But I would emphasize that most of the large publicly traded, well-capitalized builders are geographically diversified. And, they are also posting phenomenal earnings. One of the companies I’ve been recommending for years is D.R. Horton (DHI NYSE). The company has posted record sales and earnings for all of its 28 years of existence and is likely to do so for the next few years. They’ve grown earnings dramatically. There aren’t too many sectors growing faster than the homebuilders. But what’s the p/e on D.R. Horton? Eight. Why? Because it makes houses, and people view this as a cyclical business. We have a shortage of housing in this country. If we described the company’s growth and told investors that Horton made widgets or cell phones, you’d think it was the buy of a lifetime.

"Investors are particularly concerned about rising interest rates. Low interest rates are certainly helpful for the housing sector. But the ironic thing is that ten-year Treasurieswhich most mortgage rates are based on was yielding 4.6% when the Fed started raising rates last June. And today it’s at 4.25%. So when people say that interest rates have gone up, they are right regarding the short end. But on the intermediate and long end, they have gone down. So interest rates are still extremely supportive of the housing sector. And looking out over the next two years, those rates might rise 100 to 150 basis points. But in my view, even that would not kill the housing sector.

"I know a lot of investors will shake their heads and say, ‘Yeah but it’s a bubble, and I can’t buy the stocks’. But in this case, you are not buying stocks trading at ten times revenues like you were in the Internet bubble. You are buying stocks trading at eight times earnings. I’d also note that real estate is unlike stocks, in that you don’t just call your broker and say ‘sell.’ You still need a roof over your head. Overall, I think you will continue to see growth in companies such as Horton for the foreseeable future. So I would be a buyer of D.R. Horton as well as Beazer Homes (BZH NYSE), Centex (CTX NYSE), and Standard Pacific (SPF NYSE). Those are the four homebuilders that are on our buy list."

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