Home Builder Stocks Up 36% And Buffett Is Buying

Ask an investor what is the most exciting investment theme this year and you would likely get "AI" as the answer.

But few knew that the boring home builder stocks have had a great year too.

The iShares US Home Construction ETF (ITB) has surged by 36% year-to-date, surpassing the S&P 500 ETF's 15% gains.

The strong performance of home builder stocks amid high interest rates raises questions. One might expect fewer homebuyers and reduced demand for new homes. However, this can be attributed to the ongoing clearing of the backlog that home builders have been experiencing.

The surge in demand for homes originated during the pandemic, driven by remote work arrangements, prompting a need for larger living spaces and home offices. Additionally, the employees no longer need to commute daily to the city to work and they could build homes further away.

The trend has not reversed even after the pandemic has eased. Many do not want to return to the office and this is good news for the home builders. Despite a dip in new housing starts in 2022 due to rising interest rates, the numbers remained higher than the pre-pandemic period. This shift in behavior indicates a sustained increase in baseline demand.

Warren Buffett's involvement added weight to the situation, as Berkshire Hathaway disclosed new positions in three home builder stocks: D.R. Horton (DHI), NVR (NVR), and Lennar (LEN) in the last quarter. While these holdings represented a small fraction of the investment portfolio (0.2%), they still held significance and drew investors' attention to home building stocks.

Interestingly, Berkshire Hathaway's choice of these three holdings aligned with the three largest holdings in the iShares US Home Construction ETF (ITB).

There were 49 holdings in the ETF and the average revenue Compound Annual Growth Rate (CAGR) of 13% over five years showed robust growth between pre- and post-COVID periods.

A majority (39 out of 49) of the ETF's holdings have a current PE ratio lower than their 10-year average, implying reasonable valuations despite substantial year-to-date share price gains. This fact likely justified Berkshire Hathaway's investments at these price levels.