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There has been a strong divergence between equity returns of the homebuilder industry and the home improvement industry in recent months.
Stocks of homebuilders have fallen sharply, while home improvements stocks have performed quite well. Given the strength of the U.S. economy, one may be surprised to see homebuilding stocks underperforming their counterpart by such a margin. However, there are a few key factors that we can identify to help explain this divergence. First, as part of President Trump’s most recent round of tariffs, the U.S. has imposed hefty duties on imports of Canadian lumber. Given that Canada is a large supplier of lumber to the U.S., these tariffs are hurting homebuilders’ profit margins as they are forced to pay more for the lumber needed to build a home. Also, despite a multidecade low unemployment rate, wage growth for workers in this economic cycle has been much weaker than in previous cycles. We believe this has pressured many Americans to opt for the much cheaper route of remodeling their existing home, as opposed to looking to move to a new home. This has proved a headwind for new home sales, which are well below the peak we have seen in most economic cycles. In short, the tariffs combined with other price pressures appear to be eating into the profitability of home builders, at the same time that many Americans are opting to remodel as opposed to move. We believe these factors help explain the divergence between the two sectors of the real estate market.
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