Deal or No Deal at K.Hovnanian (HOV)? No Deal!
Last week K.Hovnanian Homes (HOV) announced a massive 3-day sale campaign where the company hoped to sell 1,000 homes this past weekend — at a 20% discount. I see this as a seismic shift in tactics by a major homebuilder because it acknowledges the big elephant in the room — the demand for homes at current prices is simply non-existent. So K. Hovnanian is going to start banging bids and blow out their inventory.What is not plausible is the company’s assertion that these price reductions are a “blue light special”, where the asking price will be readjusted back to the higher pre-sale price. That won’t (and can’t) happen because it ignores the realities of the residential real estate market.
Let’s say that a tract home with an asking price of $500,000 is sold at $400,000 over the weekend — a 20% discount off the $500,000 sale price.
Now, let’s assume that you weren’t aware of this weekend’s 20% discount when you stop in next month and decide to buy that same house. So your purchase price is the original $500,000. You have $100,000 to put down on the home, so you apply for an 80% loan-to-value (LTV) mortgage — a $400,000 mortgage secured by the home that you are buying for $500,000. This is a safe loan for the lender because the collateral for the $400,000 loan is worth $500,000, right?
Here’s the problem. The appraisal on your new home comes in at $400,000, not the $500,000 contract price. Why? Because those homes that were sold for $400,000 during the “blue light special” are the comparisons that the appraiser uses to value your home.
So now you’ve got a real problem. You are under contract to buy a home for $500,000, and your lender values the home at $400,000.
What’s the result? That $400,000 loan that you are seeking is not an 80% LTV mortgage. It is a 100% LTV mortgage — a risky loan for the lender because the collateral is worth just $400,000.
Think you can still get your $400,000 loan? Nope — because the lender doesn’t care what you bought the home for. The lender isn’t your partner. Rather, the lender is focused on the underlying security for the loan. You see that security as being worth $500,000 (your purchase price); the lender sees the security as being worth $400,000 (the appraised value). If you want the terms of an 80% LTV, you’ll either have to put more money into the deal, pay a much higher interest rate, or cancel the transaction.
This is the reality homebuilders are currently facing. Simply put — K. Hovnanian is not having a weekend sale. Rather, it is slashing prices by 20%. Period!
Let’s look at the chart.
The 50-day moving average has been containing each oversold rally. In fact, the early September rally stalled at the middle Bollinger Band. So what are the chances that Friday’s rally amounts to anything more than short-covering? Not good! Shorting into rallies has worked for many, many months. And each rally looks like it is the beginning of the end of the downtrend. Each rally turns out to be nothing more than short-covering.
At some point, the downtrend will morph into a base. But this is still a low-risk short because of the very low probability that HOV will suddenly start trending higher. Instead, the downtrend is likely to end with a whimper and not a bang.
If the stock runs back above $12 and gets close to the 50-day moving average, that’s where I’d sell (or short if you’re a short-seller). I’d then keep a tight stop just above the 50-day moving average. If the stock runs up that far, you’ve got a pretty good chance that the downtrend is finally run its course.
If you’ve got any questions about this chart, you can email me at Dan@StockMarketMentor.com
Note: My upcoming trading workshop in Newark, New Jersey on September 29th is close to being full. Just 4 seats left. If you want to attend, I’d suggest enrolling soon. Click here to learn more about the class.
Dan Fitzpatrick
www.StockMarketMentor.com
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