XHB ETF: Better Than ITB, But Underlying Conditions Don’t Support A Buy Now #NewsETFs

Introduction

The SPDR S&P Homebuilders ETF (NYSEARCA:XHB), a 17-year-old ETF that focuses on 35 homebuilding stocks across different market-cap has experienced a rather choppy year, as news of overrate cuts and the associated quantum get pushed back or moved forward every now and then. Yet, at the end of the day, this rate-sensitive sector, has still done well enough to beat the total stock market on a YTD basis, garnering returns of close to 19% in the process.

If you’re contemplating a position in this counter, here are a few key themes related to XHB that we’ve picked out.

Not As Popular as ITB, But Deserves To Be

Investors who are looking for diversified unlevered equity vehicles to gain access to the homebuilding sector typically opt for either XHB or its larger peer, the iShares US Home Construction ETF (ITB). ITB made its debut on the bourses only four months after XHB, yet it has managed to accumulate total AUM of $3.28bn, which is almost 50% more than what XHB has garnered ($2.19bn).

We find this quite perplexing after reviewing both products, as XHB appears to have better qualities than ITB. Sure, ITB offers exposure to a larger pool of homebuilders (48 stocks as opposed to 35 for XHB), but that doesn’t necessarily translate to better returns, as you’ll see later on. Despite covering a wider pool of names, ITB also comes across as a more concentrated bet.

This is driven, in part, by its tracking index – the Dow Jones US Select Home Construction Index, which is a modified market-cap weighted index. XHB, on the other hand, follows the S&P Homebuilders Select Industry Index, which is an equally weighted index. This ensures that there is no top-heaviness, with the top 10 stocks only accounting for 35% of the total portfolio, even though XHB covers a much smaller pool of names. In contrast, ITB’s top 10 stocks dominate, with a 70% stake. ITB also tilts more towards large-caps which have a 30% stake (as opposed to just 17% for XHB), even as XHB offers a much higher exposure to small-caps (34% vs 23% for ITB).

On paper, small-caps are positioned to offer a better runway of long-term earnings growth, and we see this filter through to XHB’s long-term weighted average earnings expectations which is around 140bps more than ITB’s; despite offering much superior earnings growth, note that XHB’s P/E premium (over ITB’s P/E multiple) is hardly noticeable at just 80bps.

XHB also appears to not be overly focused on homebuilders as ITB, where these stocks account for two-thirds of the latter’s total portfolio.

When it comes to cost efficiency and income, once again, XHB trumps ITB. It is cheaper to access at an expense ratio of 0.35%, but is perhaps not as stable as ITB given a much smaller pool of names offering more opportunities to churn (XHB has an annual churn rate of 27% which is more than 3x that of ITB’s ratio).

Yet on the income front, note that XHB has been consistently offering a much superior yield since 2010. XHB was also much quicker to initiate quarterly dividends after it got listed and has a longer history of paying dividends now (16 years as opposed to 13 years for ITB). All in all, this has played a key role in ensuring a much superior difference between XHB’s price returns and total returns over time (around 52% vs 32% for ITB). Even if one were to disregard the dividend impact, note that XHB’s portfolio of stocks has outperformed ITB’s portfolio by 33% since the latter got listed.

Is XHB ETF A Good Buy Now?

As noted in the previous section, XHB appears to be a more compelling product than its more popular peer, but that doesn’t necessarily make it a good buy at this juncture.

We remain concerned by what some of the key homebuilding metrics are currently telling us.

Firstly, consider the status-quo with the NAHB Housing Market Index, which provides a monthly pulse on the single-family housing market. This gauge helps provide context on how builders are feeling not just about the current sales of single-family homes, but crucially also the expected sales over the next six months as well as the traffic of prospective buyers. The index declined from last month’s downwardly revised figure and is currently at its lowest point since December 2023.

Housing affordability appears to be a major concern (and the latest NAHB report also pointed to more builders cutting prices in August, but these cuts are only by a marginal rate of 6% or so), and whilst investors may point to the prospect of lower interest rates going forward, it’s worth noting that funding towards this sector continues to be choked.

Loans outstanding to the segment are currently down by 10%, and is trending lower YoY for the fifth straight quarter. Meanwhile, a Federal Reserve Survey also shows that lending standards for construction loans have been lifted. It’s worth noting that lending here is dominated by regional banks, who are already currently grappling with wider issues in the commercial real estate market. If credit continues to be restricted to the homebuilders, it is difficult to see the already low housing inventory position normalize, which will continue to put pressure on home prices again, dampening the prospect of future volume.

The other thing to note is that XHB essentially consists of the homebuilding stocks that comprise the S&P Total U.S. Stock Market ETF (ITOT), and a relative strength ratio measuring these two products highlights how overbought the homebuilding counter is looking within the broader markets.

To elaborate, the current relative strength ratio is 31% higher than its long-term average and could do with some mean-reversion.

Finally, also note the developments on XHB’s weekly imprints, which aren’t very conducive. Essentially, over the last four years, the ETF has gained traction in the shape of an ascending channel. It is preferable to buy when XHB drops to its lower boundary and sell as it gets closer to the higher boundary.

Quite a few investors may have played for a breakout from the upper channel boundary, but we’ve seen two successive occasions, both in July and in August, where the price has broken past, only to fail. Now that the price is back in the channel, we are also not enthused by the current risk-reward on offer, given how far away it is from the lower boundary.

To conclude, we don’t believe XHB would make a good buy now, and instead rate it as a HOLD.