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Is Warren Buffett Crazy for Putting Berkshire's Money into Homebuilders?

Is Warren Buffett Crazy for Putting Berkshire's Money into Homebuilders?

August 22, 2023

If most experienced investors were shown the following 5-year chart and were told Warren Buffett just started buying this stock, they wouldn’t believe it:

It’s true, though.

And it’s remarkable: in DR Horton, we’re looking at a stock that, despite its recent pullback, is still up almost 30% YTD, nearly 100% since its 2022 bottom and has roughly quadrupled since the 2020 Covid panic lows.

This is a Berkshire Hathaway purchase?!

We all know that Buffett’s holding period is long-term, to say the least. He’s the classic value investor.

So what’s he seeing?

Maybe he believes homebuilders are going to have long-term pricing power, both due to relief they’ve seen since Covid in the materials sector and in the dynamics of the existing home sales market.

In the latter instance, what I mean is this: if rates are going to be higher for longer, as many are expecting, then existing homeowners will continue to be “trapped” in their homes by the low mortgage rates they locked in over the past few years. This dynamic is not only propping up the prices of those existing homes by shrinking inventory, but also making new homes more attractive by comparison. This is particularly true because many homebuilders, rather than offering price incentives, are instead buying down interest rates to lower buyers’ monthly payments – something buyers can't do as easily with existing homes.

Aside from trying to answer why the Oracle of Omaha would be buying builders after such a huge run, let’s simply review whether the technicals say this is a good idea. We’ll do this by looking at the SPDR S&P Homebuilders ETF (XHB) and the iShares U.S. Home Construction ETF (ITB).

While both ETFs are in long-term uptrends, they are acting differently on a short-term basis.

Switching to my preferred chart type, Point & Figure, we see that XHB is clearly in a bullish column of Xs short-term, and that over the long run it has registered a healthy string of higher highs and higher lows:

(XHB)

 


The recent rally could look a bit extended, being near the top of the charts expected trading band. That said, a pullback would have to create a falling column (O’s), a move to 62 and it’s first double-bottom break of the year to form the first sign of trouble on even a short-term basis. Things look extended but healthy here.

A look at ITB is more interesting. Often thought of as an ETF that is weighted more to the material and service providers of the building sector, it has actually become a more direct play on the homebuilders themselves.

This sort of drift happens. For years, I consulted to a mutual fund company, helping them construct portfolio products. As an example, we created an agriculture fund that was very disciplined: while our peers were including names like Kellogg and other consumer brands that would actually be harmed by rising ag prices, we were laser focused on publicly-traded growers and the fertilizer and machinery companies that supplied them.

At any rate, this sort of drift happens. In fact, ITB’s top holding is the one Buffett bought the most of – DR Horton. In fact, DHI now makes up fully 15% of this ETF! Because homebuilder stocks have all paused recently, perhaps this explains why ITB looks different than XHB and has pulled back into a declining column of O’s:

(ITB)

 

Now, a move to 81 would be the second double-bottom sell signal, which could signal a further decline. That said, even a move all the way down to the bottom of its expected trading band near 75 would leave this ETF above its long-term bullish support line, suggesting it could be an attractive entry point.

Those looking to initiate positions in this holding could think about adding a partial position here, then adding to it upon a further decline. Easily-definable stop loss points could then be identified, limiting one’s risk.

Back to Berkshire: at less than $800 million, Buffett’s DR Horton purchase doesn’t even make it a top 20 holding in Berkshire’s portfolio, which suggests he may just be getting started. That said, the healthy overall technical positions of these two ETFs suggests Buffett is not crazy for initiating positions here.

As usual, it appears he’s crazy like a fox.