Still time to climb on the housebuilders’ ladder

27th February 2014

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Mindful Money contributor and BCS portfolio manager Edmund Shing considers whether it is still worth investing in shares to play the UK housing boom.

Surely UK house builders have done so well already, that they can’t possibly have much further to go? When the heated state of the UK housing market becomes headline news on a regular basis, then as a stock investor, you have to be worried, right?

While that might normally make sense, in this case I would beg to differ. It is true that, since I wrote my last article extolling the virtues of UK house builders on February 4 (UK Building is All Systems Go!), the Bloomberg UK house builders’ index has risen some 9%, its pullback today notwithstanding.

But let me present a series of data that I find to be compelling evidence that the current bull market in housing-related stocks  still has some way to run…

Item 1: House Builders have 37% to go to Reach their 2007 Highs

Yes it is true! As a group, house builders like Barratt Developments (BDEV), Berkeley Group (BKG) and Persimmon (PSN) have 37% further to rise before they hit their June 2007 share price highs (Figure 1):

1. Nowhere Near Their 2007 Highs Yet…

Item 2: Housing Starts Are Picking Up, But Still Below Average

House builders are breaking ground on more new projects today than at any time since the first quarter of 2008 (Figure 2). However they are still a long way from climbing back to the average for quarterly housing starts seen pre- Financial Crisis.

2. Housing Starts Climb, But Still Below Pre-Crisis Average

 Source: Bloomberg

 

Item 3: and Building Completions Are Even Worse…

If we look at the rate of building completions in the UK, the situation looks even worse (Figure 3).

3. UK Building Completions Have Only Stabilised, Thus Far…

Source: Bloomberg

If we add up the cumulative shortfall in building completions since the onset of the Financial Crisis in 2008, we can see that the difference between what has been built, and what would have been built if we had continued to finish houses and flats at the same rate as over the 1990-2007 period, is 1.7 years-worth of building at present rates (Figure 4)!

4. The Shortfall in Building Completions Is Huge at 1.7 years-worth of Construction!

Source: Bloomberg

 

Item 4: Mortgage Approvals Go Up, Mortgage Rates Down

And all the while, the UK Government is of course doing its bit to help the purchasing of new-build homes with their Help to Buy schemes, effectively guaranteeing the first 20% of a 95% loan-to-value mortgage, allowing first-time buyers to get on the property ladder with only a 5% deposit. No wonder then that the number of mortgage approvals is going up (Figure 5)!

5. Mortgage Approvals Roar Back, But Still a Long Way Shy of Historic Average Volumes

Source: Bloomberg

The Bank of England are also doing their bit to boost the housing market, albeit indirectly, with their virtually zero interest rate policy. As a result of this plentiful and cheap central bank funding, average UK mortgage rates continue to fall as High Street banks fall over themselves to chase new mortgage business (Figure 6):

6. Average Mortgage Rate Continues to Head Lower

Source: Bank of England

 

Item 5: Good House Builder Growth in Earnings, Book Value

The final point is that all this positive fundamental housing market momentum is of course translating into higher profits for the UK house builders, as you would expect. But of course, rising new house prices also have a second positive benefit on the land banks held on the balance sheets of these building companies, inflating their book values (Figure 7):

7. House Builders Benefit from Both Stronger Earnings And Rising Book Values

 Source: Bloomberg

 

Item 6: Strong Q4 results from Barratt Development, Taylor Wimpey, Persimmon

Finally, we have seen a very strong crop of results from leading house builders such as Persimmon (PSN), Taylor Wimpey (TW) and Barratt Development (BDEV) over the past few days. Taylor Wimpley are returning £250m of extra cash to shareholders via special dividends this year and next thanks to their strong profit performance.

Persimmon’s full-year profit for 2013 rose 54%, with homebuilding volume up some 30%. They will also return a total of £1.9bn to shareholders by 2021.

Barratt said that their first-half housing completions were at their highest level in five years on the back of a strong, broad-based recovery with higher sales rates all over the country (so not just London and the South East). trading over the last 8 weeks has remained very strong, with average selling prices in the private sector some 11.6% above year-ago prices.

Summing Up: What to look at?

So all in all, the fundamental outlook continues to look bright for the UK house builders, even if there is some short-term profit-taking on the back of very strong fiscal 2013 year results. To me, this pullback represents a chance to buy into what I consider to be a durable theme for the next few months at least. My favourite names in the sector include:

1.  Barratt Developments (BDEV)

2.  Galliford Try (GFRD)

3.  Telford Homes (TEF)

4.  Inland Homes (INL)

But of course there are other names that you may prefer to play in other housing-related sectors such as Builders’ Merchants (e.g. Travis Perkins TPK), kitchens (Howden HWDN) and flooring (Topps Tile TPT; Headlam Group HEAD).

 

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