Monday's Top Upgrades and Downgrades

This series, brought to you by Yahoo! Finance, looks at which upgrades and downgrades make sense, and which ones investors should act on. Today, we investigate multiple analyst moves in the housing sector, as analysts at Piper Jaffray and Raymond James make bullish noises about a turnaround in homebuilding. We begin with...

The homebuilders
The National Association of Home Builders and Wells Fargo released their monthly builder sentiment index this morning. Reporting what homebuilders are saying about trends in "current single-family home sales," "expectations for the next six months," and "prospective buyer traffic," then blending the three trends to produce a single number showing the state of the home market, the BSI is one of the key tools analysts use to forecast where homebuilder stocks -- and the stocks of home improvement retailers -- will be heading in the immediate future.

Bad news first: This index dropped from 28 in February to 25 in March. Worse news second: That's 25 on a scale of 1 to 100. Meaning that as far as builder-optimism on the housing market goes, there isn't much.

Perhaps thinking that it's always darkest before the dawn, however, investment banker Raymond James leapt into the fray this morning with a housing report of its own. Far from counseling panic, the analyst decided to upgrade the builders. Just about every one of 'em got an upgrade today:

  • MDC Holdings (NYSE: MDC  ) , PulteGroup (NYSE: PHM  ) , and Ryland (NYSE: RYL  ) all received upgrades from market perform to outperform.
  • Toll Brothers got a "strong buy" rec.
  • And even Standard Pacific and KB Home got upped from underperform to market perform, and are now officially out of the doghouse.

But do they deserve to be? After all, out of the six companies named, only one (Toll) is actually earning a profit, and Toll's $0.20 in trailing-12-month earnings is pretty weak, leaving the stock still stuck with a P/E well into the triple-digits.

If you were hoping to see an industry turnaround in Monday's BSI report, and surging profits in the earnings reports that follow, then now may still be too early to buy. On the other hand, if you were looking to buy these stocks at steep discounts to their book value, then it's already too late. With P/B ratios already ranging from a low of 1.4 (Standard Pacific) all the way up to 1.8 (Ryland), that train has already left the station.

The home improvement shops
But might there another way to play a rebound in housing? According to the analysts at Piper Jaffray, there is, and it can be summed up in three words: Home Depot (NYSE: HD  ) and Lowes (NYSE: LOW  ) .

As confirmed by StreetInsider.com this morning, Piper is following in Raymond James's footsteps with a pair of upgrades to overweight for the two biggest names in home improvement. With a new price target of $62, Piper sees the potential for a 20% profit at Home Depot. Targeting a $41 price tag at Lowe's, it's evident the analyst likes HD's rival even better -- and sees a chance to snag a 28% gain there.

Yet once again, the prospects look bleak. For one thing, today's BSI report tells us that however optimistic Wall Street may be about these stocks, the folks with their ears closest to the ground in the housing industry don't share the optimism. This suggests that Street predictions of near-15% earnings growth at Home Depot and Lowe's may prove too optimistic. With both stocks already trading north of 20 times earnings, investors who follow Piper's advice and buy Home Depot and Lowe's could be setting themselves up for a fall.

Motley Fool contributor Rich Smith does not own shares of, nor is he short, any company mentioned above. The Motley Fool owns shares of and has created a covered strangle position in Wells Fargo. Motley Fool newsletter services have recommended buying shares of The Home Depot, Wells Fargo, and MDC Holdings. Motley Fool newsletter services have also recommended writing covered calls on Lowe's and writing naked calls on Standard Pacific.


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