Hunt for House Builder Yields in Barratt and Taylor Wimpey

Monday, Feb 02 2015 by
4

What should be the investors' mantra in 2015? I would vote for: “Income, income, income", given the paltry interest rates on offer from bank and building society savings accounts. You can forget UK gilts (government bonds) as a source of income too, as a 10-year gilt only offers a pre-tax yield of 1.3% per year! 


Within UK stocks, one of the most attractive homes for cash in your ISA (don't leave any ISA top-ups to the last minute in April!) and any recently-liberated private pension savings is in UK house builders such as Barratt Developments (LON:BDEV), Berkeley Group (LON:BKG) and Taylor Wimpey (LON:TW.)


As a group, house builders such as these have enjoyed strong performance in share prices, gaining 20% since June of last year while the FTSE 100 index has struggled to remain flat (Figure 1). 


1. House Builders Leave the FTSE 100 in the Dust

54cf98fe3a2d91_housebuild_price.jpg


Source: Stockopedia.com



Yes House Price Inflation Is Slowing, But Prices Are Still Rising


Unless you have been living on Mars these past few months, you will most likely be aware that UK house price inflation is slowing, with the Nationwide Building Society reporting a monthly gain in average prices of only 0.3% in January 2015, resulting in a yearly gain of 6.8% and driving the average price of a UK property up to a new all-time high of £188,446 (Figure 2).

2. House Prices Up 6.8% Over the Last 12 Months to £188,446 Average

54cf999f01e68house_prices_NW.jpg

Source: Nationwide Building Society


There are a number of economic factors that should support house prices over the year ahead, perhaps allowing for modest further house price inflation over 2015:


  1. Lower unemployment (latest rate down to 6%) and improving wage growth (+1.6% year-on-year);
  2. Lower energy costs on the back of lower petrol prices and lower utilities bills, boosting household discretionary income;
  3. Lower average mortgage interest rates as banks and building societies become more aggressive in chasing new mortgage and re-mortgaging business, with a 2-year fixed rate for a 75% loan-to-value (LTV) mortgages heading down toward a new low of 2% (Figure 3),


3. UK…

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My opinions only, not investment recommendations: Please Do Your Own Research

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Barratt Developments PLC is a holding company. The Company is principally engaged in acquiring and developing land, planning, designing and constructing residential property developments and selling the homes, which it builds throughout Britain. The Company operates in two segments: Housebuilding and Commercial developments. Its housebuilding segment operates through approximately six regions and approximately 30 operating divisions delivering over 17,319 homes. Its Commercial developments are delivered by Wilson Bowden developments. It purchases land in targeted locations and designs homes for its customers using standard house designs. Its brands include Barratt Homes, David Wilson Homes and Barratt London. Its Barratt Homes brand focuses on making homes. Its Barratt London brand portfolio offers apartments and penthouses in Westminster to riverside communities in Fulham. Its David Wilson Homes brand offers home design and specification, and focuses on developing family homes. more »

LSE Price
646p
Change
2.3%
Mkt Cap (£m)
6,577
P/E (fwd)
9.1
Yield (fwd)
7.1

Persimmon Plc is a United Kingdom-based holding company. The Company is engaged in house building within the United Kingdom. The Company trades under the brand names of Persimmon Homes, Charles Church, Westbury Partnerships and Space4. The Company offers a range of homes from studio apartments to family homes in approximately 400 locations under Persimmon Homes brand. The Company builds homes under Charles Church brand in a range of locations. The Company focuses on affordable social housing and sells these homes under Westbury Partnerships. The Space4 business operates an off-site manufacturing plant producing timber frames, insulated wall panels and roof cassettes as a fabric first solution to the construction of new homes. more »

LSE Price
2120p
Change
4.4%
Mkt Cap (£m)
6,753
P/E (fwd)
7.8
Yield (fwd)
11.1

Taylor Wimpey plc is a residential developer. The Company operates at a local level from 24 regional businesses across the United Kingdom, and it has operations in Spain. Its segments include Housing United Kingdom and Housing Spain. The Housing United Kingdom segment includes North, Central and South West, and London and South East (including Central London) divisions. The North division covers its East and West Scotland, North East, North Yorkshire, Yorkshire, North West, Manchester, North Midlands, Midlands and West Midlands regional businesses. The Central and South West Division covers its East Midlands, South Midlands, East Anglia, Oxfordshire, South Wales, Bristol, Southern Counties and Exeter regional businesses. The London and South East Division includes Central London and covers its East London, North Thames, South East, South Thames and West London regional businesses. It builds homes in various locations of Costa Blanca, Costa del Sol and the island of Mallorca. more »

LSE Price
165.55p
Change
3.0%
Mkt Cap (£m)
5,430
P/E (fwd)
8.1
Yield (fwd)
11.1



  Is LON:BDEV fundamentally strong or weak? Find out More »


3 Comments on this Article show/hide all

TheWatchmaker 3rd Feb '15 1 of 3

Hi Ed,
Graph 1 is somewhat misleading - Jun2014 FTSE100 was still holding in the 6800's and housebuilder SPs had dived from their peak in March2014.
How would this Graph 1 look rebased from March 2014? Not as attractive, I expect.

I find that SPs for housebuilders are very noisy and jump around excessively on the slightest change in economic prospects in the news headlines. Very hard to know when they are at a fair price or if they are overpriced.

Dividend payments have certainly ramped up significantly with the improving ROCE of recent years. However, ROCE appears to be approaching a peak plateau - the question then is 'How long does it stay there?' and allow attractive dividend returns to shareholders.

I'd be cautious about grabbing the dividend while the risk of a decline in share price could result in an overall loss.

Regards
Geoff

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Edmund Shing 3rd Feb '15 2 of 3
1

In reply to post #91320

54d0c121580cbUK_HBuild_chart_Longterm.jp

Hi Geoff,


Well fair point on the performance, look at the long-term total return performance of the UK house builders' sector versus the FTSE 100 over the long-term, since 2000: 12% annual total return over the 14+ years, versus less than 4% for the FTSE 100 including dividends!

yes house builders' share prices have been volatile in the past, but this is partly due to their tendency to become over-optimistic at the top of previous house price cycles, borrow too much money and then suffer in the subsequent housing bust. 

This time around they are being more cautious, have built up large net cash balances rather than take on debt, and are not building like crazy... So pricing is much more rational, and profit margins are correspondingly higher. Thus I feel that the current high dividend yields can be maintained, which was not the case in the past. 

Edmund



Blog: The Idle Investor
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VegPatch 4th Feb '15 3 of 3
4

Geoff / Edmund
I agree with parts of what you both said. I would like to add a couple of other points.
If we take the industry dynamics first. The UK housing market is still under supplied.



Demand:
Look at the Barker Report and the Lyons Housing Review, the latter which proposed a target of building 200,000 homes a year. The 2001 census thought that household formation was c179k houses p.a, since then the UK population has grown and divorce rates have increased. In 2011 the household formation figure was estimated to be 221k households pa for the next 10 years.



Supply
In contrast supply has conspicuously lagged demand.
This Chart is from the National Statistics in Nov 2013 and estimates household completions of around 110k pa


This excess of demand over supply is why prices have risen.

We must be careful in extrapolating house price rises ad infinitum (see 2007-09 for details) and this is the reason why the Bank of England imposed caps on mortgage lending in Summer 2014 as mortgage to income ratios are back towards, or in some areas above, prior peak levels.

BOE Charts

When to Buy housebuilders ?

Historically I have always looked to buy around Tangible Net Asset value (TNAV= value of tangible assets less debt and excluding goodwill) on a 1 yr forward basis . Why ? Because the land that forms the major part of the TNAV is held at the lower of cost and net realisable value. Most Landbanks on average have been purchased over the last 3-4 years . Therefore in normal market conditions where we see House Price Inflation (HPI) we also will have experienced land price inflation as the sellers of land demand more each year as the value of the houses that the builder can put on that land rises, so they demand a higher "rent".

Thus if we take Bovis (£BVS) as an example: approx 88% of the asset value of company is in the land inventory (£971m out of 1096m total assets). Land inflation is starting to return in the market. So if we hypothetically marked this to market by say 5% p.a. over 4 years = 20% uplift. This would increase the 2013 TNAV / share (the last published Report and Accounts) from 605p to 750p. Buying at 1.1x the forward TNAV (ie last years stated TNAV plus net income minus dividends paid (retained income)) gives some margin of safety in my mind. Admittedly not huge, but at least I have a value that I am buying the shares at, which is below what I really think they are worth. (when it really goes wrong is when the housing market crashes! )

So for Bovis I see the 2013 TNAV of 605p, add on 2014s retained earnings estimate (FY14 accounts not yet out so i have taken the estimated 2014 EPS of 77p minus the 35p dividend) = 42p, assume the same for 2015 = 42p. This gives me a 2015 TNAV of 689p. I then multiply it by 1.1x = c760p. The shares are currently 850p. So I am not a big buyer here.

However I would note they got down to 770p in Jan 15 and Nov 14, so I am willing to hold out for my price given the volatility.  Also we have an election coming up. Mansion tax, London prices, tax rises all round....Arrgh!. They tend to scare investors and allow buying opportunities for the patient. Finally Housing shares tend to perform best in Q1. FACT ! so I am biding my time.


Happy hunting

VegPatch

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About Edmund Shing

Edmund Shing

Edmund Shing is currently Global Head of Equity & Derivative Strategy at BNP Paribas, and formerly a Global Equity portfolio manager at BCS Asset Management. Edmund focuses on a combination of high-level investment themes and fundamental stock-picking, with a dash of technical analysis in the mix. He has a book published in 2015 by Harriman House, “The Idle Investor”, which provides investors with three simple, easy-to-implement strategies using low-cost ETFs to give a good combination of portfolio performance at a measured level of investment risk. Edmund has previously worked at Barclays Capital (as Head of European Equity Strategy), BNP Paribas (as a Prop Trader), Julius Baer, Schroders and Goldman Sachs over a 21-year career in financial markets based in Paris and London. He also holds a PhD in Artificial Intelligence from the University of Birmingham. You can follow him on Twitter: https://twitter.com/TheIdleInvestor more »

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