After an impressive rally in 2014, the shares of most homebuilders look seriously expensive right now. Many companies operating in the space are healthy, however, and if they manage to keep up with their current growth rates, plenty of value could be up for grabs this year and next. Here, I look at the prospects for Persimmon (LSE: PSN), Taylor Wimpey (LSE: TW), Berkeley (LSE: BKG), and Barratt Development (LSE: BDEV).
Mind you: this is a highly cyclical sector, where returns can be incredibly volatile.
Persimmon: High Returns
The shares (+13.4% year to date) hover around record highs and are among the most expensive in the peer group, based on trading multiples. That said, Persimmon may deserve a premium: it offers a decent mix of growth and yield, is well managed and had a strong start in 2015. The homebuilder aims to create value, as it says, through capital returns. What is truly impressive is a return on capital employed of 24.6%, which compares with 17.6% in 2013, and testifies to a very efficient use of capital. There is a lot to like in the way the operations are financed, too. With a forward dividend yield north of 6%, it’s one of my favourite stocks in the space and I am convinced about this growth/yield story.
Taylor Wimpey: Attractive Valuation
Taylor Wimpey’s latest trading update in early March showed the company is on the right path of growth, with expanding margins and a stunning forward dividend yield, which doubles the FTSE 100’s average yield of 3.4%. This is a risky trade, although Taylor Wimpey’s free cash flow yield provides reassurance, and could rise further if core profitability surges in line with expectations. The shares (+10.6% year to date) currently change hands around the highs they last recorded seven years ago, and the recent rally has also been favoured by the fact that Taylor Wimpey stock remains one of the cheapest in the peer group.
Barratt & Berkeley
Barratt (+13.8% year to date) similarly trades around its multi-year highs, but the shares are roughly 20% more expensive than those of Taylor Wimpey, based on trading multiples for operating cash flow and earnings. A projected yield at 4.3% is one element I like, and I also fancy its more diverse geographical mix. It’s a tad expensive, though, and excluding Persimmon, if I were to bet on any stock in this sector, I would be tempted to consider those with lower valuations — but I wouldn’t invest in Berkeley, for instance.
Berkeley had a poor 2014, as it lagged many of its rivals: so far this year, its shares have risen almost 10% and are still cheaper than others in the sector. But for me, Berkeley’s growth prospects are less appealing than those of Barratt and Taylor Wimpey — although Berkeley is more profitable, given its focus on London and the South East — and offers a forward dividend yield is north of 6%. If the sector, as many believe, has reached peak levels of profitability, Berkeley could be one of the worst performers. Its stock trades close to all-time highs, so the fall could be painful.
