Remember how shadow inventory was set to kill the housing market?
Remember when we were told millions upon millions of empty homes would soon flood the market and depress prices?
Me too, but despite all the wild claims, none of it came true.
What we failed to see about shadow inventory
Ask anyone involved in real estate and they’ll tell you the exact same thing – all real estate is local. There’s a reason why homes in San Francisco sell for $1,000 a square foot while homes in Texas are lucky to catch $100 for the same square foot – location matters.
By the very nature of a housing bubble, the pop leaves behind localized housing disasters. It is in these disaster areas – places like Detroit or Las Vegas – where shadow inventory is a big problem. In other markets that were not squeezed to the brink, the market for homes couldn’t be stronger. In fact, in markets like Phoenix and Seattle, prices are being driven higher by organic demand.
How to play a housing recovery
Sales of previously owned homes just hit the highest level since 2009, as existing home sales were up .8% in February 2013 from the previous month. This marks a recovery in housing, as previously owned homes are now selling at a pace of 4.98 million homes per year.
The best play in housing isn’t in homebuilding, though. Homebuilders are still lagging as they struggle to economically develop vast residential land holdings and attract buyers in markets where existing homes sell at less than the cost of replacement.
Here’s three stocks that position you for housing profits:
The Home Depot, Inc. (NYSE:HD) – This retailer sports a forward earnings multiple of 15 while boasting impressive returns on invested capital. For every dollar The Home Depot, Inc. (NYSE:HD) has invested in its business in the last 10 years, it’s enjoyed some 14.1 cents in annual earnings. That makes for rapid growth, plus the insulating effects of a broad moat in a fractured market. The company’s recent dividend increase of 34% plus a $17 billion stock buyback gives this stock the tailwinds to outperform.
Wells Fargo & Co (NYSE:WFC) – This banking giant is a leader in simple mortgage transactions. What makes Wells Fargo the best of the bunch is a modest level of leverage (debt to equity stands at .9), and its inherent ability to acquire capital at the lowest rates in the banking industry. Wells Fargo & Co (NYSE:WFC) has average capital costs more than 100 basis points lower than its competitors, giving it pricing competitiveness unmatched by any other bank. As mortgage shoppers look for the best deal, it will inevitably be found from this well-financed banking institution trading at just 9 times forward earnings estimates.
Bed Bath & Beyond Inc (NASDAQ:BBBY) – Trading at just 11 times forward earnings estimates, this company makes a mint when buyers move into their new digs. The company sells everything from furniture to home décor products, which makes it perfectly exposed to higher home sales and more movement among American homeowners. Impressively, this debt-free company has carved out a niche that allows it to generate excess economic profits. The company plans to expand to 1,300 North American stores, giving it organic growth on top of the surplus profits to be had in an environment with improving home sales.
Don’t make a common investing mistake of chasing only the direct plays in a particularly industry.
While increased home activity may point to homebuilders, these three names above have a track record of strong performance with or without the tailwinds of housing. For now, the tailwinds only make these fantastic names even better. Where good companies meet a good macroeconomic environment, investors prosper.
The article Why Shadow Inventory Doesn’t Matter for These Stocks originally appeared on Fool.com and is written by Jordan Wathen.
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