It’s been a challenging year for shares in the UK housebuilding sector as investors grew concerned about the strength of the domestic economy, slowing house price growth and the potential long-term impact of Brexit.
Falling share prices
Barratt Developments (LSE: BDEV) has been one of the worst performing shares in the FTSE 100, down 25% year-to-date. That’s because it warned conditions in the higher end of the London market were more challenging, although it has found overall market conditions to be healthy. This was attributed to weaker than expected sales rates in the capital that forced it into lower asking prices, which no doubt disappointed shareholders.
Barratt’s struggles in London were all the more disappointing given that Berkeley Group (LSE: BKG) appears to be bucking the weak London trend. Despite its London-centric focus, pre-tax profits for Berkeley rose 39.9% in the first half, as unlike Barratt, the company managed to protect prices and volumes by successfully delivering value to sites. Nevertheless, time will tell if Berkeley will be able to withstand the pricing pressures as Central London house prices continue to fall.
Taylor Wimpey (LSE: TW) is doing little better than Barratt, with shares having lost 24% of their value since the start of the year, as the company warned that the implications of the EU Referendum remain unclear. Yet because of its better geographic diversification, the company could find itself in a better position to cope with the divergence in house price growth in London and the rest of the UK.
Peak pessimism?
The best time to buy any shares is when they’re cheap and cyclical companies are usually cheapest when they’re at the point of peak pessimism.
But the fears of many investors aren’t irrational. Housebuilders are highly cyclical stocks and a downturn in the property market could have devastating consequences for the profitability of these firms. A look at the share price performances of these housebuilders during the last recession is probably enough to send shivers down anyone’s spine.
That said, I don’t think trading conditions will get anywhere near as bad this time round. UK economic growth is likely to remain slow in the wake of the Brexit vote, but most economist forecasts suggest we will avoid a recession. Moreover, despite the dip in property prices in London, property prices outside of the capital continue to rise steadily. Just today, the Royal Institution of Chartered Surveyors (RICS) said it expects UK house prices to increase by an average of 3% in 2017, due to the ongoing shortfall in the supply of new homes.
Attractive valuations
Low valuation multiples and their positive earnings outlook also suggest these shares have been oversold. Shares in Berkeley Group are the cheapest on their forward P/E, with shares trading at just 6.9 times expected earnings next year, while Taylor Wimpey and Barratt Development both trade at 8.6 times their respective 2016 earnings forecasts.
On top of that, investors should take note of their dividend prospects — these three firms have absolute dividend targets that are well protected by their forward sales cash flow and strong balance sheets. Barratt is the highest yielding with a forward dividend yield of 7.6%, but it’s followed closely behind by Taylor Wimpey and Berkeley, which yield 7.3% and 7.2%, respectively.
