Pardon me for a moment while I adjust my neck brace. I've got a nasty case of stocklash.
The major stock indices were well back into the green Thursday, with the Dow closing up 423, or 3.95%; the NASDAQ up 111, or 4.6%; and the S&P up 52, or 4.6%. This after a wicked whipsawing going back to Thursday last, when the market tanked, followed by a flat Friday, a freefall Monday, a recovery Tuesday, and another freefall Wednesday.
The home-builder stocks were mostly in the green as well but nowhere near recouping the losses sustained on Thursday, Monday and Wednesday. The exceptions were Beazer (NYSE:BZH), which was down 3.7% at $1.56, and M/I (NYSE:MHO), which was down a bit less than a half a percent at $7.18.
Economists are saying the market is pricing in the possibility--or maybe probability--of the dreaded double-dip recession and that the financial crisis over in Europe is far from solution. Oh, and low lives are burning much of Britain. Veteran traders are also blaming computer trading, which no doubt has contributed to market volatility.
WS&M thinks all that may be true, but we insist that the big culprit is that same four letter word that caused the housing crash and the last financial crisis: Debt. The kind that can't be paid off. The kind the U.S.government has.
What the markets are telling us, here and across the pond, is that investors are not willing to fund the welfare state any longer. That leaves governments with few options other than printing more fiat money or making very big spending cuts. The latter is what some are blaming for the behavior of whomever it is that is trying to torch the mother country (we can't tell, but they sure don't look like the Limeys we've known and loved).
Clearly, the welfare state is over, even if a large group of those who lurk beneath the Capitol dome and in the West Wing have not gotten the message yet. They will.
One thing is for sure: this volatility, in the markets and in the streets of London, is not going to help confidence among those who have investments and who also are the best prospects for buying a new house. Which does not at the moment portend a healthy fall for the housing business.
The question for home builders, then, would appear to be how to deal with this renewed uncertainty. Loading the land pipeline is probably no longer a wise strategy, nor is building spec homes, at least until there is some clarity on direction of the economy. That, unfortunately, is not likely to come until well after the 2012 elections, and even then it could prove the sort of clarity one encounters in the moments before death.
Stephen East at Ticonderoga Securities on Thursday morning issued an investor advisory that gave some (perhaps unwanted) advice to the builders he covers: Cut debt.
Ahh, there's that four-letter word again.
He buried the lead at the top of his second paragraph:
"We have long believed, with few exceptions, that builder balance sheets are laden with excessive gross debt given the current size of their operations."
Here's how he started the advisory:
"Collectively, we believe home-builder capital structures need rebalancing.Balance Sheet debt for many is inordinately impacting profitability as interest expense is a meaningful drag on earnings. Consequently, as detailed later in this report, we believe those builders with lower debt loads have created a useful competitive advantage with lower incurred interest costs per closing. We are not only talking about interest expense in accounting terms, but more importantly, interest expense in economic terms, whether capitalized or expensed, as it is a burden that most builders cannot handle effectively in this housing environment."
We'll refer readers to his advisory at the link above for his rationale, data and suggestions on how to do this, but we'll also pick up this:
"Recognizing that builder's have elected to stockpile cash as a margin of safety through the downturn, we believe such a practice is no longer necessary for most of them. Moreover, we fear that in a couple of years' time, builders who have not reduced gross debt positions will be saddled by compounded capitalized interest placing them at a meaningful competitive disadvantage from which it will be hard to recover."
If there is another recession, we wonder how many more of the publics will fall out of the group to be restructured, sold or vanquished into oblivion. We do suspect those with the highest debt-to-cap ratios are likely candidates.
In other words (actually three four-letter words back-to-back): debt isn't good.