Option Trade
KB Home (NYSE:KBH) Calls
Monday, January 09, 2017

** OPTION TRADE: Buy the APR 21 2017 16.000 call at approximately $1.40. Place a pre-determined sell at $2.80.

Note: No protective stop losses added -- but if you wish to do so make it $0.65.

by Ian Harvey

Monday, January 09, 2017

With the first interest rate increase in a year past us, most on Wall Street are expecting anywhere from four to five increases between now and 2019. While investors may think that could hurt the homebuilder stocks, one firm is reasonably bullish on some of the top companies in the industry. With underwriting standards somewhat looser, and the 2015 reduction in FHA mortgage insurance premiums providing a tailwind, 2017 may prove to be a very good year for investors that own the homebuilders.

In a new research report, Wedbush analysts are reasonably positive on the segment and feel investors should focus on the more liquid companies. They said this in the report:

    “The primary catalysts of housing demand (jobs and consumer confidence) are trending positively. Competition from existing homes for sale has been slim in the Top 25 markets, and we do not see a catalyst to change that trend. Mortgage availability in spring 2017 should be better than in spring 2016 due to a relaxation of mortgage lending standards (lower minimum credit scores and exceptions to the 43% debt-to-income limits) by the Government sponsored entities mid-2016.”

And KB Home (NYSE:KBH) is a well-known company that the Wedbush team is positive on. KB Home is one of the largest homebuilders in the United States, with roughly 2% market share. The company builds single-family homes, townhomes and condos for first-time, move up and active adult buyers.

KB Homes is positioned in roughly 40 markets, with around 70% to 75% of revenues attributable to the West and Central regions. KBH also provides mortgage services through a joint venture with Nationstar.

Founded in 1957, and the first homebuilder listed on the New York Stock Exchange, the company has built nearly 600,000 homes for families from coast to coast. Distinguished by its personalized homebuilding approach, KB Home lets each buyer choose their lot location, floor plan, décor choices, design features and other special touches that matter most to them.

And now, the U.S. homebuilder is scheduled to report its fourth-quarter results after the market close on January 11. The company is expected to report earnings of $0.37 per share, down from $0.43 during the same period last year, and revenue of $1.14 billion for the quarter. The stock has appreciated 33.9% over the last year.

While the consensus calls for earnings of $0.37, the Street has a much higher whisper number of $0.49 for the quarter, suggesting a strong likelihood that the quarterly numbers will come in above the consensus, and an earnings beat is widely expected.

KBH has strung together three straight quarterly reports with better than expected earnings, but sales were weaker than expected last quarter, which has kept the stock in a sideways trend. If we see another upbeat report, the stock should trend higher.

KB Home has a one year low of $9.04 and a one year high of $17.38. The company has a market capitalization of $1.37 billion, a PE ratio of 14.03 and a beta of 2.09. The company has a 50-day moving average price of $16.19 and a 200 day moving average price of $15.66.

Factors to Consider

Most everyone's heard of the "January effect," the seasonal phenomenon where stock prices rise during the first month of the year as investors scoop up stocks they sold off in December because they were harvesting tax losses in a bid to offset realized capital gains. Apparently it's also a good time to look for stocks sporting low P/E ratios.

And, KB Home certainly looks attractive with a P/E just under 14; as one of the country's largest homebuilders and with renewed demand among home buyers, particularly in its prime central and west markets.

There are some confusing trends in housing at the moment. Online brokerage Redfin, for example, expects home sales to grow 2.8% this year with home prices rising 5.3%. However, the Federal Reserve is expected to be raising interest rates this year and for the next few years as the economy improves. Those are factors that would typically hurt the housing market, but with a new administration coming in and the promise of tax cuts and infrastructure spending hikes on the horizon, they could help further stimulate the housing market and KB Home's stock.

Also, KB Home has been focusing on several strategic initiatives over the last few years to drive profit and revenues. One of its primary targets has been to increase community count.

The company regularly opens communities in highly favorable submarkets to drive growth. KB Home recently-opened communities include Shadow Glen in Marana, Promenade at Communications Hill in San Jose, Vineyard Square in Windermere, Sonoran Ranch II in Tucson and Cedar Brook in Houston.

KB Home gained around 70% in the last one year period compared to the Building-Residential/Commercial industry's growth of 8.5%. Moreover, the company has a decent earnings history, beating estimates in three of the past four quarters at an average of 6.38%.

Analyst Input

KB Home was upgraded by Zacks Investment Research from a “hold” rating to a “buy” rating in a research report issued on Tuesday. The firm currently has a $18.00 price objective on the stock.

According to Zacks, “KB Home focuses on strategic initiatives like boosting community count, achieving higher revenue per community, higher profitability per unit, and increasing asset efficiency and return on capital invested to drive growth. The company opens communities in highly favorable submarkets where housing demand is strong and supply is limited. It also focuses on profit per unit by improving cost efficiencies without compromising on the quality of the product. Also, shares of KB Home outperformed the Zacks categorized Building-Residential/Commercial industry, year to date.  However, KB Home’s community count, which declined during third-quarter 2016, is expected to drop further in the fourth quarter. The company does not expect community count to recover till 2017 beginning.”

A number of brokerages have also recently issued reports on KBH….

RBC Capital Markets reiterated a “sector perform” rating and set a $17.00 price target (up previously from $16.00) on shares of KB Home in a research report on Thursday, September 22nd.

MKM Partners set a $15.00 price target on KB Home and gave the company a “hold” rating in a research report on Monday, November 14th.

Buckingham Research upgraded KB Home from a “neutral” rating to a “buy” rating in a research report on Monday, September 19th.

Finally, FBR & Co reiterated a “market perform” rating and set a $16.00 price target on shares of KB Home in a research report on Thursday, September 22nd.

Harvey’s Options Volatility Indicator


Therefore, based on the facts above, and Harvey’s Options Volatility Indicator, the following option trade is recommended…..

 ** OPTION TRADE: Buy the APR 21 2017 16.000 call at approximately $1.40. Place a pre-determined sell at $2.80.

Note: No protective stop losses added -- but if you wish to do so make it $0.65.


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