UPDATE: Housebuilders’ shares face pickier investors
Ken Odeluga November 26, 2015 1:39 AM
<p>Updated throughout at 2000 GMT Residential property stocks remained buoyed on Wednesday, after the UK government confirmed it would embark on the biggest homebuilding […]</p>
Updated throughout at 2000 GMT
Residential property stocks remained buoyed on Wednesday, after the UK government confirmed it would embark on the biggest homebuilding programme for decades.
All stocks in our residential property ‘universe’ rallied ahead of Chancellor George Osborne’s Autumn Statement.
However, they closed lower than their best levels of the day because the statement contained a few negatives for the residential property industry.
Osborne confirmed plans to double the country’s housing budget to about £7bn and to build 400,000 new homes in England.
In line with a commitment made in this summer’s Budget, the Chancellor also said he would step up measures already taken to provide more affordable housing.
“The government will help address the housing crisis in our capital city with a new scheme, London Help to Buy”, the Chancellor said.
“Londoners with a 5% deposit will be able to get an interest-free loan worth up to 40% of the value of a newly-built home”.
Investors in residential property shares reacted.
A sector rally shown in the snapshot below, taken before Osborne began his statement in Parliament (Table 1)….
HOUSEBUILDERS RALLY ACROSS THE BOARD (TABLE 1)
Please click image to enlarge
…faded in the wake of a few new policy details that were perceived to be negative (Table 2 below).
HOUSEBUILDERS RALLY SOFTENS INTO CLOSE (TABLE 2)
Please click image to enlarge
Osborne said the UK’s Stamp Duty tax would be cut for the majority of home buyers, but those buying at the top end of the market would pay more.
The tax will change from a flat rate on the entire value of each property, to a ‘graduated’ and ‘notched’ system:
- 2% on the portion of a property worth between £125,000 to £250,000
- 5% on values between £250,001 to £925,000
- 10% on homes worth up to £1.5m
- 12% on homes above £1.5m.
As for the homebuilding element of new housing policy, there’s a clear risk it will prove inadequate for its intended aim.
New starter homes can cost as much as half a million pounds in London, which is more than 10 times the average salary in the Capital.
Additionally, there’s room for some scepticism about the government’s building programme.
Is it feasible the current government can achieve its goal of 400,000 homes (for which there was no clear timeframe)?
The rate of UK housebuilding has seldom, if ever, been more than 200,000 a year.
Beyond feasibility, investors are likely to weigh the extent to which more targeted Stamp Duty could impact the business of making and selling homes.
Whilst only a minority of buy-to-let homes are newly built, and only a relatively low fraction of new-build homes are priced at the higher end of the Chancellor’s new Stamp Duty range, the indirect impact on the overall sector is still difficult to predict.
For instance, Berkeley Group is known to produce more homes priced at the higher-end of the range than its rivals, so could, in theory, be impacted by Wednesday’s changes.
But it’s also true that sales trends for higher-priced homes tend to be less sensitive to economic changes.
Either way, we continue to expect property share rallies to fade further and for investors to return to their recent increasingly selective stance.
On Wednesday, pre Autumn Statement, we pointed to the relative underperformance of estate agents stocks like Foxtons, and Countrywide—see the values in red the both tables.
This negative bias looks even more pronounced after the Chancellor’s statement than before (see TABLE 2).
Shares of some estate agent operators, like Foxtons, Countrywide, and LSL Property, in fact gave up all their earlier gains on the day and closed in the red.
Agents are not likely to see greatly increased margins from the government’s homebuilding plans, which are focused at the ‘value end’ of the scale.
Separately, the Chancellor also announced plans to simplify the barrage of mortgage fees borrowers typically face when buying a home.
These changes will make it much easier for people to understand the different charges and compare deals.
That should make the mortgage market more competitive, but it’s also likely to pressure margins for advisors like estate agents.
As for the homebuilders themselves, we expect the cash-generating abilities of Barratt Developments, Persimmon, Taylor Wimpey and Berkeley, to face particular scrutiny.
This entire group is forecast to lag behind Redrow in terms of free cash flow yield from debt and equity in fiscal 2016, according to Thomson Reuters data.
Bovis could also be a weak link, after its shares tumbled as much as 13% last Thursday, their biggest one-day fall in 7 years.
That came after the firm warned its 2015 operating margin would only be a fraction higher than last year’s.
Still, Bovis is one of the larger residential developers, along with Barratt and Bellway.
Shares of the trio could still see the best short-term uplift on the back of the planned scale of homebuilding the Chancellor plans in England.
Galliford, Persimmon and Berkeley will probably be less fortunate.
Their shares were already trading above the average UK housebuilders rating of 10.82 times before the Autumn Statement, suggesting rotation was likely.
On top of that, Galliford’s revenue ratios also place it at the bottom of the UK listed group.
Perhaps that accounts for the stock’s underperformance over the last three months which is on par with out-of-favour estate agents. (see TABLE 1 and TABLE 2).
Originally published 1130am GMT, 25th November
Housebuilding is already one of the clear industrial sectors to benefit from the UK government’s spending review.
All stocks in our residential property ‘universe’ rallied on Wednesday ahead of Chancellor George Osborne’s Autumn Statement in which he was expected to announce the biggest surge in homebuilding for a decade.
HOUSEBUILDERS RALLY ACROSS THE BOARD
Please click image to enlarge
It’s great timing for home building and estate agent shares.
The sector’s 5-year uptrend, during which the Reuters UK Homebuilding Index marched more than 500% higher, has been looking rather less assured of late.
The sector index fell just over 14% from a peak on 14th August up to last night’s close.
THOMSON REUTERS UK HOMEBUILDING INDEX DAILY CHART
Please click image to enlarge
It remains 28% higher for the year to date, but lower on the quarter and the month.
The wheels initially looked set to come off UK real estate shares in a big way earlier this year, when as investors began worrying in earnest about the growing likelihood of a US rate hike, which would lift borrowing costs across the world.
Two months later, the Conservatives again charged to the industry’s rescue by retaining power with an unexpected majority in the general election.
This meant they could dispense with the fetters from their erstwhile Lib-Dem coalition partners.
Residential property shares on aggregate went on to add almost 60%, but since mid-August, they’d been slipping.
Apart from indiscriminately stretched valuations, investors have latterly been worried anew about margin pressure from increasing competition for sites, exacerbated by delays in the notoriously sclerotic British planning process.
These challenges haven’t gone away of course.
But if reports that incentives for building an additional 400,000 affordable homes prove correct, the tailwind for housebuilders’ shares will pick up.
However, after an initial rally on any news for the property industry in Wednesday’s Autumn Statement, we expect stock investors to return to their increasingly selective stance.
We note there’s been a clear bias against estate agents like Foxtons, and Countrywide, in our table above, both on a 3-month and 9-month basis—see the cells highlighted in red.
Additionally, investors have scrutinised the challenged cash-generating abilities of Barratt Developments, which trails the UK sector in terms of the amount of cash it is expected compared with its use of financing in the forthcoming financial year.
It’s enterprise value-to-free cash flow ratio in the 2016 financial year is expected to clock in about 34% lower than rivals, according to Reuters data.
Bovis has also received the thumbs down from investors recently.
Its stock is still about 15% in the red on a three-month basis after it warned a few days ago its operating margin would only be marginally above that of last year.
We’ll update this article after the Autumn Statement is officially released
GAIN Capital UK Limited (trading as “City Index”) is an execution-only service provider. This material, whether or not it states any opinions, is for general information purposes only and it does not take into account your personal circumstances or objectives. This material has been prepared using the thoughts and opinions of the author and these may change. However, City Index does not plan to provide further updates to any material once published and it is not under any obligation to keep this material up to date. This material is short term in nature and may only relate to facts and circumstances existing at a specific time or day. Nothing in this material is (or should be considered to be) financial, investment, legal, tax or other advice and no reliance should be placed on it.
No opinion given in this material constitutes a recommendation by City Index or the author that any particular investment, security, transaction or investment strategy is suitable for any specific person. The material has not been prepared in accordance with legal requirements designed to promote the independence of investment research. Although City Index is not specifically prevented from dealing before providing this material, City Index does not seek to take advantage of the material prior to its dissemination. This material is not intended for distribution to, or use by, any person in any country or jurisdiction where such distribution or use would be contrary to local law or regulation.