Everybody has been wondering what was going to happen to homebuilders once the Federal government's tax credit expired at the end of April. Well, we're starting to find out, and the picture doesn't look good.

Goldman Sachs has downgraded the entire Homebuilders industry from Attractive to Neutral, dropped MDC Holdings Inc. (MDC) from its Conviction Buy List and dropped its price targets on 10 stocks in the industry.

And really, who can blame them?

We've seen new home sales plunge from 504K in April -- right before the tax credit expired -- to 300K in May. We've also watched housing starts and applications for new building permits dry up. Plus, it is getting harder and harder for individuals to qualify for a loan.

Moody's is giving the rating of several home builders another haircut. The current downgrades include Hovnanian (NYSE: HOV), M/I Homes (NYSE: MHO), and Meritage Homes (NYSE: MTH).

Aside from what the ratings change will do to the shares of the companies, this raises, once again, the question of whether a large home builder could go into Chapter 11. Increasingly, the answer to that question looks like it may be "yes."

According to CNN Money, "Homebuilders keep lowering prices to meet flagging demand, crimping profit margins at a time when overall sales continue to deteriorate." At some point soon, many of these companies will need to raise money. It is not clear that they will be able to in the current credit market.

Shares in Meritage certainly trade as if investors believe that the company may have to restructure and that investors may get the short end of the stick. At the current share price of $8.41, the stock is down from a 52-week high of over $47.

Investors may be better off getting out of these stocks with losses. Otherwise they may ride the train to "zero."

Douglas A. McIntyre is an editor at 247wallst.com.

MOST NOTEWORTHY: Sovereign Bancorp (SOV) and the Homebuilders sector topped the upgrade list today.

• Citigroup upgraded Sovereign Bank Inc. (NYSE:SOV) to Hold from Sell with a $25 target, citing expectations for management to announce a larger cost-cutting program in January of 2007.
• Bank of America upgraded the Homebuilders sector to Neutral from Cautious after their survey showed traffic improvements in 33 of 39 markets in November relative to October; They do not expect a smooth trend, instead, the firm expects to see choppiness in the market for the next 12-24 months.
  • In conjunction with the sector upgrade, Bank of America upgraded Standard Pacific (NYSE:SPF) to Buy from Neutral,
  • and Meritage Homes Corp. (NYSE:MTH), NVR Inc. (NYSE:NVR), Pulte Homes Inc. (NYSE:PHM), The Ryland Group Inc. (NYSE:RYL) and Toll Bros. Inc. (NYSE:TOL) to Neutral from Sell.

OTHER UPGRADES:

• Sanofi-Aventis (NYSE:SNY) was upgraded to Overweight from Neutral at HSBC.
• SAP AG (NYSE:SAP) was added to Merrill Lynch's Europe 1 list.

Analyst summaries provided by TheFlyOnTheWall.com (subscription required).