Navigating the Housing Crossroads: Which Builders Will Thrive Amid Rate Pressures?

The U.S. housing market is at a crossroads. New single-family home sales in May 2025 plummeted 13.7% month-over-month to a seasonally adjusted annual rate (SAAR) of 623,000 units—the lowest level in three years—amid mortgage rates near 7%. This decline, coupled with a 9.8-month inventory supply (the highest since 2009), underscores a market strained by affordability constraints and oversupply. Yet not all builders are faltering. A select few are navigating these headwinds by focusing on affordable housing, regional demand pockets, and pricing flexibility, while over-leveraged luxury-focused peers face mounting risks. Here's how to separate winners from losers.

The Resilience Play: Affordable Housing Leaders

The housing crisis has sharpened demand for budget-friendly options. Builders targeting first-time buyers with homes priced under $300,000 are proving remarkably resilient. Beazer Homes (BZH) and M.D.C. Holdings (MDC) stand out here. Both companies have prioritized affordability, with M.D.C. reporting a 6% rise in orders in Q2 2025 for homes under $300,000 despite overall market softness. Their focus on Sun Belt regions (e.g., Texas, the Carolinas) aligns with areas where inventory remains tight and price declines are muted.

Why it matters: Affordable housing is less sensitive to mortgage rate hikes. Buyers in this segment prioritize homeownership over luxury features, making them less likely to delay purchases even as rates linger near 7%. Analysts at Capital Economics note that buyers of under-$300,000 homes are 30% less rate-sensitive than those purchasing luxury properties.

Regional Winners: The Midwest and South's Hidden Strength

While coastal markets like California and the Northeast face steep inventory overhangs, the Midwest and Sun Belt offer pockets of stability. Builders like KB Home (KBH) have capitalized here. KB Home's Q2 2025 results showed a 13% drop in orders overall, but its Midwest operations bucked the trend with a 3% rise in average selling prices. The company's strategy of reducing build times (down 12% year-over-year) and tighter cost controls (lowering SG&A expenses as a percentage of revenue) have kept margins intact.

Key metric: KB Home's backlog dropped 27% year-over-year, but its geographic diversification—with 60% of sales in the Midwest/South—buffers against regional oversupply. Investors should also watch Lennar (LEN), which reported a 6% rise in orders in Q2 2025 despite the broader downturn. Lennar's focus on the South Central U.S. (e.g., Texas) and its “production-first” approach to reduce cycle times has kept it afloat.

The Cautionary Tale: Luxury and Overleveraged Firms

Not all builders are so lucky. Toll Brothers (TOL), the luxury homebuilder, saw net signed contracts fall 11% in Q2 2025, with average backlog prices rising to $1.13 million. While Toll's margins remain robust (26% gross margin), its exposure to high-end markets (e.g., California, the Northeast) is a liability. Wealthy buyers are more rate-sensitive and prone to delay purchases during economic uncertainty. Toll's 26.1% debt-to-capital ratio is manageable, but its strategy of expanding communities (up to 421 from 386 a year ago) risks overextending if demand falters further.

Red flags: Toll's backlog dropped 15% year-over-year, and its cancellation rate rose to 6.2% of contracts—a sign of buyer hesitation. Meanwhile, luxury-focused peers like D.R. Horton (DHI), which reported a 10% order decline in Q2 2025, face similar challenges.

Investment Themes to Watch

1. Affordability Over Amenities: Bet on BZH and MDC for their focus on starter homes and strong balance sheets (MDC's debt-to-equity ratio is just 0.3x).
2. Regional Diversity: KB Home and Lennar's geographic spread shields them from overexposure to oversupplied regions.
3. Avoid Overleveraged Players: Steer clear of builders with debt-to-equity ratios above 1.0 (e.g., PulteGroup (PHM) at 0.8x is safer; avoid those with higher leverage).
4. Monitor Mortgage Rate Trends: A drop in the 30-year rate below 6.5% by year-end could trigger a buying surge. Track this indicator closely.

Historically, Federal Reserve rate cuts have delivered an average 2% pop in these stocks on announcement days, reflecting immediate market optimism. However, the subsequent 60-day holding period reveals a mixed picture: while the sector benefits from lower borrowing costs, volatility persists. For instance, the strategy faced a maximum drawdown of -30.53%, and a Sharpe ratio of 0.23 underscored high risk relative to returns. A negative excess return (-17.18%) further highlights that sustained outperformance is far from guaranteed. This reinforces the need to pair rate-watching with scrutiny of affordability strategies and geographic exposure.

The Bottom Line

The housing market's pain points are clear, but pockets of resilience exist. Investors should favor builders with affordable housing portfolios, Midwest/South exposure, and prudent debt levels. Avoid luxury-focused firms and those gambling on overbuilt coastal markets. As analyst Lawrence Yun of NAR notes, “Lower rates could revive demand—but until then, affordability is king.”

Actionable picks: Buy MDC (dividend yield 1.8%, P/B 0.9) and KBH (shares trading below book value). Sell Toll Brothers if its backlog continues to shrink. Stay vigilant on inventory metrics—9.8 months' supply is a warning, but it could drop to 8 months with a rate cut, sparking a rally. The housing market's next chapter hinges on rates—and which builders are ready to adapt.