Investors are clamoring for new ways to invest in an emerging bull market in American real estate. Some favorite investments include the likes of The Home Depot, Inc. (NYSE:HD), which is known for robust capital allocation, dividends, and share repurchases.
The Home Depot, Inc. (NYSE:HD) recently announced earnings that beat on the top and bottom line. The company reported earnings 18% higher than the year-ago period from tremendous improvements in same-store sales. Revenue at comparable stores (those open for at least one year) swelled by 4.3%, confirming Home Depot’s promise that the company would see top-line expansion and the possibility for impressive margin expansion.
The lackluster performance of the stock after an earnings beat and improved forecast shows that going directly into housing via home-improvement retailers may be a mistake for the speculative investor. The Home Depot, Inc. (NYSE:HD) is a cash cow in up and down cycles, making it just as much defensive as it is cyclical.
Where to go for home exposure
Investors who want to play a rise in American home values may want to look away from homebuilders – which have risen substantially already this year – to automakers.
Automakers? Yes, automakers!
In what seems like the most roundabout way to grab a position on American housing, automakers derive a majority of their domestic automotive profits from the sale of trucks. Trucks, believe it or not, sell fastest when the housing market is booming. Contractors and construction companies typically update or add on to their trucking fleets when the market turns stronger.
That trend is starting to show in the bottom line for American automotive companies.
Here’s why: the average car on American roads is 10 years old. American automakers cut capacity during the financial crisis, and margins have improved across the board. There is already ample, pent-up demand for American cars for personal transportation.
On top of this pent-up demand is very valuable truck demand. Trucks are worth as much as $10,000 in profit per unit. That’s serious upside for automakers, which earn, on their best day, $1,000 from the sale of a compact car or sedan. Contractors and construction crews update their very expensive, very profitable trucks when capacity requires expansion ahead of a boom in construction. Home construction is at a tipping point – one analyst believes national home sales will not pick up until new home construction helps alleviate some of the supply constraints in houses available for sale.
So far, housing has been very good to North American automakers. Chrysler saw sales of its Ram pickups swell by 49% year-over-year in April. Publicly-traded Ford Motor Company (NYSE:F) reported a 24% increase in F-series sales while General Motors Company (NYSE:GM) saw sales of its Silverado and GMC Sierra trucks increase at a 23% annual clip. Sales grew 8% as a whole in April, with pickups (the most profitable product) leading the pace.
Why truck sales can lead automakers
The Wall Street Journal reports that truck sales have a near-perfect relationship with housing construction. An upturn in new home starts, a multi-year trend that has only just begun, should continue to bolster truck sales well into the future.
Profits in the industry can and should sustain for many years. Ford recently added 2,000 new jobs to increase its production of F-series pickups. The company continues to build on capacity, hoping to build 200,000 more cars and light trucks in the United States going forward.
Recently revised earnings estimates for Ford eye a profit of $2.20-$2.25 per share by 2015, which, if given a reasonable 9-10 multiple for a cyclical company, would result in a share price significantly higher than the current $15 per share. Ford could rally to as much as $22 to $25 per share.
North American car and light-truck sales can also fuel General Motors’ bottom line. The company reports that, as a whole, it is operating in the United States at 100% of capacity on two shifts. Thus, GM has the capacity to add a new shift without incremental capital expenditures, boosting production by as much as 30% to 130% of two-shift capacity on a run-rate if sales continue to come in strong.
The Foolish bottom line
A nationwide shortage of trucks should continue to drive margins. Across the nation, car dealers are looking far and wide to fill orders. In Illinois, dealers report hunting down pickups from Ohio and even Iowa in order to keep up with demand.
Automotive companies are also fairly inexpensive relative to the broad market. Ford trades at 8 times forward earnings estimates while General Motors trades at 6 times forward earnings estimates. When Wall Street wakes up to the value in the cyclicals, automakers should lead. Truck sales will be the catalyst that attracts investment interest, and pushes earnings-multiple expansion.
The article A Different Way to Play Housing originally appeared on Fool.com and is written by Jordan Wathen.
Jordan is a member of The Motley Fool Blog Network — entries represent the personal opinion of the blogger and are not formally edited.
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