HOUSING: Building Toward Recovery

After sliding steadily downward for the first half of this year, housing-related stocks began to regain some value in the third quarter, leaving analysts wondering whether a modest recovery may be in the cards for the rest of the year.

The slide was in many ways bound to happen. Shares of home builders and related businesses had risen to all-time highs along with the residential housing market, but those record levels could not last forever. Since January, slowing home sales have hit the sector hard.

By July, amid rising interest rates and a climbing inventory of unsold homes, the stock prices of many home builders had fallen to half their recent peaks. D.R. Horton Inc., a lower-end builder based in Texas, dropped from a high of $41.39 in January to a low of $20 in July. Toll Brothers Inc., a luxury-home builder based in Pennsylvania, dropped from $39.90 in January to $22.67 in July. Both firms have large housing projects under construction in the Washington area.

Signs that the bottom may have been reached began to appear midway through the quarter. The Federal Reserve in August stopped raising interest rates, leading some investors to hope that home buyers would reenter the market. Meanwhile, other investors began to consider housing stocks a good contrarian play in light of their low prices.

There was also another possible reason for optimism, as the Mortgage Bankers Association reported last month that home-loan applications had started to increase, an indication of rekindling buyer interest. Celia Chen, a housing analyst with Moody's Economy.com, said some investors were encouraged by "the general economic outlook," which she called "pretty steady," and the increase in mortgage loan applications, which she said "will translate to a slightly higher demand for housing."

Those sentiments sent shares of home builders back up by the end of the quarter, though still short of their historical peaks. D.R. Horton climbed 20 percent from its July low, to $23.86; Toll rose 24 percent, to $28.08. Overall, the Standard & Poor's 500-stock index home-builder's group finished the quarter up 3.3 percent, though it's still down 28 percent for the year.

But analysts cautioned that it may be too soon for investors to celebrate a housing comeback. Chen said she thinks the improvement in housing-related stocks was likely a "temporary blip," and said she did not believe housing stocks would trend upward again until 2009.

"Essentially the lift off the bottom has been driven by the hope that the decline in interest rates would affect affordability and bring demand up," said Dan Oppenheim, an analyst with Banc of America Securities LLC. "Some people were thinking the bad news was out, and so it was safe to buy stocks. Our view is that there's still plenty of bad news to come and it's premature to think that it has bottomed."

His negative view on home-builder stocks is shared by Greg Gieber, an analyst with A.G. Edwards & Sons Inc., who said he believes there is a "legitimate risk that stocks could go 20 percent lower" before eventually rising again.

"The higher you go, the more you have to fall," Gieber said. "In my opinion, this is the worst housing market I have seen in decades. . . . I don't see any chance of making money in real estate stocks," he said. "There's no urgency at all to buy a home-builder stock. Sit on the sidelines now."

Shares in home-improvement retailers also suffered during the third quarter, as investors anticipated cooling sales at the stores that provide the lighting fixtures, paint and deck planking people buy when they move into their new homes. Rising property values spur people to take out home-equity loans to fix up their homes, but people are less willing to take out such loans when home prices fall.

For the quarter, the S&P 500 home improvement retailers group declined 1.3 percent. Lowe's Cos., which announced a stock split at the beginning of the quarter, dropped nearly 8 percent, and late last month it trimmed its earnings forecast for the rest of the year. On the other hand, its rival Home Depot Inc. ended the quarter at $36.27, up 1 percent.

The prospect of better housing news may boost these retailers. Lowe's gained 4 percent in the first week of the fourth quarter, closing Friday at $29.21. Home Depot rose more than 2 percent, to close at $37.14.

But in this sector, too, analysts were cautious about future prospects. Gieber said home buyers spend a considerable amount of time and money in the first year and a half after buying a house, fixing it up and changing the paint. The record home sales of 2005 and early 2006, in other words, would boost sales in fix-up retailers for more than a year after the home-purchase transaction. Then, he said, the Mr. Fix-It phase of life comes to an end.

"At the 18th month, you say, 'To hell with it,' " Gieber said. "You get a beer and go sit out in a lawn chair."