Forget buy-to-let. I’d collect 9% from this FTSE 250 property stock

Profit margins are soaring at this FTSE 250 (INDEXFTSE:MCX) builder. Roland Head thinks the shares remain a buy.

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Buy-to-let is often seen as a sure way to build up a second income and a potential retirement fund.

But with house prices at record highs in many areas, and landlords facing increased costs, making money from renting isn’t as easy as it might seem. In this article, I’ll explain why I think investors are likely to enjoy stronger returns from property stocks.

A record year

FTSE 250 housebuilder Bovis Homes Group (LSE: BVS) is rebounding strongly from a build quality scandal which hit the firm’s profits in 2016 and 2017. Results out today show that pre-tax profit rose by 47.5% to a record £168.1m last year, beating market expectations.

This increase wasn’t achieved by cranking out more houses. The number of homes completed by the company only rose by 3% last year, and the average selling price was only 0.3% higher.

Instead, Bovis boss Greg Fitzgerald has put in place a number of measures to improve the profit margin on each home. These include changes to the pricing, specification and build processes used. Looking ahead, the company is introducing a new housing range, Phoenix, this year. This is expected to deliver a 3% improvement in profit margins compared to equivalent previous designs.

These changes have pleased home-buying customers too. The company says that it’s on track to earn a four-star customer satisfaction score in the 2018 Home Builders Federation survey — up from just two stars in 2017.

Cash flow supports 9% yield

Last year’s strong performance left the group with a net cash balance of £126.8m, with a further £68m due soon from a joint venture project in Wellingborough. As a result, the ordinary dividend will rise by 20% to 57p per share. Shareholders will also receive a 45p per share special dividend, giving a total payout of 102p per share — that’s a yield of 9.5%.

Analysts expect a similar payout in 2019. Consensus forecasts currently show a total dividend of 100.4p per share for this year, giving a prospective yield of 9.4%. That looks higher to me than the average yields available on rental properties these days.

Although the economic outlook remains uncertain in the UK, Bovis says sales so far this year have been 15.7% higher than during the same period last year. Almost half of this year’s forecast revenue has already been secured. I believe Bovis remains a good alternative to buy-to-let.

How safe is this 8% payout?

I’m less confident in the 8% dividend yield being offered by FTSE 100 travel group TUI AG (LSE: TUI), whose brands include First Choice, Hapag-Lloyd Cruises and Crystal Ski. In early February, the firm’s shares fell by nearly 20% after it warned of pressure on profit margins for summer 2019.

The group now expects profits to be broadly flat this year, versus previous forecasts of 10% growth. Analysts have cut their earnings forecasts for the current year by about 10%, but the shares have now fallen by 30% since the start of the year.

This has left the shares looking cheap, on 7.7 times forecast earnings and with a dividend yield of 8.1%. However, I think there’s a significant risk of more bad news and perhaps a dividend cut.

I’ve previously admired TUI’s progress, but with profit margins falling and an uncertain outlook, I think it’s too soon to get involved here. I’d avoid this stock for now.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

Roland Head owns shares of Bovis Homes Group. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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