Who wins in the construction boom

The threat of geopolitical tensions is always bad for the stock market; however, some headlines tend to ignore international conflicts. In the US, the real estate sector is seeing a potential new bull run in the coming quarters, and it all has a relatively simple cause.

After Warren Buffett started buying stocks in the housing sector, investors became curious. Far from being a discount, Buffett’s position is D.R. Horton Inc. NYSE: DHI is more of a cyclical bet than your typical long-term value investing strategy, or is it? According to the Intercontinental Exchange, most mortgages in the United States today have an average interest rate of 3.25%.

These rates are important because, since mortgages are hovering around 7.5% these days, most homeowners are probably not looking to sell their mortgage on the cheap only to refinance a new home at a much more expensive rate . At the same time, would-be homebuyers are not looking to purchase at such high prices. To get out of this situation, builders need to step up and inject new inventory.

After these homebuilders do their part and Buffett gets paid, the stock likes it Sherwin-Williams Co. NYSE: SHW will have to come in and furnish newly built homes, as the company is one of the leading names in chemicals (paints) in the real estate sector.

The markets are preparing

After falling 12% over the past two weeks, Sherwin-Williams shares have fallen to 88% of its 52-week high, attracting some attention as a potential buying target. Now, why would analysts do this Citigroup Inc. NYSE:C and the UBS Group New York Stock Exchange: UBS increase the stock’s price target before the next quarterly earnings announcement?

That’s right, the price targets went up to $390 at Citi and $402 at UBS. Respectively, these banks suggest the stock could rise 28% and 32% in the coming months. However, investors should take analyst ratings with a grain of salt, so here’s what the markets think of Sherwin-Williams.

Compared to the construction sector, Sherwin-Williams shares are valued at a P/E multiple of 33x, a 98% premium to today’s average valuation of 16.6x for the sector. There must be a good reason why analysts expect such a big rise in the stock and why markets are also willing to overpay for it.

It won’t be the stock’s 1% dividend yield; Investors may instead start asking more questions, focusing more on the stock’s fundamentals and potential domestic real estate demand.

The Sherwin-Williams brand: as good as ever

SHW

Sherwin Williams

$309.26

+3.30 (+1.08%)

(As of 04/22/2024 ET)

52 week interval

$221.76

▼

$348.37

Dividend yield

0.92%

P/E ratio

33.43

Price target

$325.94

In 2019, Sherwin-Williams owned 28.5% of the North American paints and coatings market. In second place, PPG Industries Inc. NYSE:PPG it took almost 21% of the market. Despite this being a narrow competitive positioning, markets continue to favor Sherwin-Williams over PPG.

Valued at 22.1x, PPG shares trade at a 33% discount to Sherwin-Williams. The saying “It has to be cheap for a reason” applies here too, as the same analysts at Citigroup and UBS who backed Sherwin-Williams have gone so far as to downgrade PPG stock. From $156 to $150, UBS sees 15% upside in the stock.

For Citi, the downgrade brought the stock’s previous valuation from $170 to $161, a 5.3% drop in stock sentiment. Analysts are not the only ones to hold this opinion for the two competitors.

Institutional investment inflow over the past year was $9.6 billion for Sherwin-Williams, while for PPG it was just $5 billion. How bears have viewed these two stocks over the past month may also give investors another angle to gauge current sentiment.

PPG stock’s short interest rose 5.6% during the period. Remembering that fighting the market – and analysts – may prove futile, bears have retreated from Sherwin-Williams stock, as its short interest has declined 9.9% over the past month.

As Sherwin-Williams earnings are due on April 23, analysts looking to boost their reputation have given the stock a higher rating. At the same time, short sellers wanted to avoid losses and withdrew from stocks.

The final check may be based on the price-to-book (P/B) ratios of the two stocks. Investors are willing to pay 21 times for Sherwin-Williams’ book, the first financial metric to expand if net income rises. The company’s financials show a net income margin of 10.4%, compared to PPG’s 7%.

A gap in profitability, combined with Sherwin-Williams’ superior return on capital (ROIC) rates of 14.5%, higher than PPG’s 9.3%, could have led investors to discount PPG’s portfolio only to 3.8 times.

Before you consider PPG Industries, you’ll want to hear this.

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