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Why I’d dump these ‘safe’ stocks

Many investors perceive property to be a safe asset, which it is in most cases, but compared to other investment sectors such as pharmaceuticals, the returns from property can be lacklustre. 

Another problem with property investment is that buildings are a very sticky asset. As we saw just after the referendum vote last year, when several property funds began to deny investor redemption requests, investing in publicly traded property stocks can be a risky business during times of uncertainty. 

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With this being the case, I’m cautious about the property stocks that I choose to include in my portfolio as the UK’s economic outlook becomes more uncertain. 

Deteriorating fundamentals 

St Modwen Properties (LSE: SMP) is one company that I want to avoid. It is a regeneration specialist. The company buys existing property assets and then does them up to a particular specification before trying to sell them on. This leaves it open to market fluctuations. If the group finds itself holding assets that it can’t sell for more than it acquired during a period of uncertainty, losses will result, and shareholders will suffer.

The market is already sending a clear warning that investors might do best to avoid this business. According to a trading update issued by the firm today, the company’s EPRA net asset value per share was 468p at the end of May, up 1.7% from the last reported November 2016 figure of 460p. However, at the time of writing shares in the company are trading at 358p, a full 22.2% below the reported net asset value. The discount quite clearly shows that the market is sceptical about the value of St Modwen’s property portfolio. 

And it seems as if investors are right to give the firm a wide berth. According to today’s trading update, trading profit for the six months ending May 27 came in at £26.4m, down from £34.4m in the prior period while borrowings rose marginally to give a loan-to-value ratio of 33.1%, up from 30.5%. With debts rising, profits falling and the market turning its back on the company, it might be wise to avoid St Modwen.

Riding high but time to avoid  

While St Modwen is suffering from a lack of support, Henry Boot (LSE: BOOT) has the opposite problem. Year-to-date shares in the company have added just over 50%, and they now trade at a significant premium to net asset value. For the year ending 31 December 2016 the company reported a 74% increase in revenue and 23% increase in earnings per share to 21.5p. Net asset value per share rose 5% to 177p at the end of 2016 indicating that today, the shares trade at a premium of 77% to net asset value. What’s more, after recent gains, shares in the residential and commercial property developer trade at a forward P/E of 12 and support a dividend yield of only 2.5%. 

These ratios don’t leave much room for manoeuvre if the UK property market starts to splutter. With this being the case, I believe there are better property stocks out there that may offer a more attractive opportunity without the premium valuation.

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Rupert Hargreaves has no position in any shares mentioned. 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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