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Meritage Homes Corp (MTH), Toll Brothers Inc (TOL): With Rates on the Rise, Is It Time To Flip Housing Stocks?

Mortgage rates increased more than 1/2% this week to 4.46%, the largest weekly increase in more than a quarter-century and the highest rate in 2 years. This is on top of revised economic data showing that the US economy grew at a much slower rate during the first quarter than previously thought, and what appears to be a slowing of hiring, and a stagnation in unemployment claims that had been consistently dropping for over a year.

Meritage Homes Corp (NYSE:MTH)

The question is what should investors do?

Time to flip?

KBH data by YCharts

If you’ve invested in homebuilders like KB Home (NYSE:KBH), PulteGroup, Inc. (NYSE:PHM), or Meritage Homes Corp (NYSE:MTH) in the past year, you’ve probably done well, and are tempted to take your money and run. Even the nearly 25% increase for high-end homebuilder Toll Brothers Inc (NYSE:TOL) may seem tempting to cash in.

But the key to investing is not letting past results cloud our assessment of the future. KB Home announced earnings on June 27 that exceeded expectations, both on the top- and bottom-lines. And at a price near $20, down from its 52-week high, there is plenty of reason to see future growth with this builder. However, my concern with KB Home (NYSE:KBH) is easy to sum up: debt.

KBH Debt to Equity Ratio data by YCharts

The housing market (and the constant cash flow it generates) must continue to perform, or KB Home could find itself in a crunch, as it carries a very high level of debt versus its peers. With the market potentially slowing, I’d consider stepping back and looking for more data to support whether this is just a speed-bump, or a prolonged slowdown, before making a call to sell.

Toll Brothers Inc (NYSE:TOL), which carries the lowest debt to equity of this group is also protected from a protracted shift in the housing market in another way. Its average home selling price is nearly $570,000, more than double that of KB Home, and per its most recent earnings report in May, the average price of a home in its backlog is $693,000. If the softening of the housing market is driven by rising interest rates, it could be reasonable to assume that focusing on the higher end of the market, and carrying less debt, makes Toll Brothers Inc (NYSE:TOL) an attractive long-term investment.

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