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Housebuilders look hard done by

Created:
19 December 2007
Written by:
Jonas Crosland

UK housebuilders may have had a prosperous 2007, but 2008 looks less promising, and the gloomier outlook has already taken its toll on share prices.

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Persimmon , regarded as one of the top-performing builders, has seen its share price fall 48 per cent and Barratt Developments has fallen 64 per cent. Much of the shake-out has been caused by the dreadful situation in the US housing market, itself a victim of the sub-prime lending fiasco. And while the latest US data has showed some improvement, there is no getting round the fact that around two million adjustable-rate mortgages in the US are soon to be set at higher rates, and, according to Credit Suisse, sub-prime defaults could climb as high as 20 per cent.

But the medium-term picture in the UK is far brighter. Bank base rates have already been cut, with further reductions expected, while - crucially - unemployment remains low. Short-term trends will probably see reservations on new houses decline, and some builders will chase business by introducing a greater level of incentives for buyers and spending more on advertising. This will increase volume but at the expense of margins. But many will simply hope that the crucial Spring season brings the buyers back. Most pundits expect house price inflation to all but disappear in 2008 and any increase in average earnings should close the affordability gap a little.

Housebuilders also have history on their side. In the past 27 years, the housebuilding sector has returned an average gain of over 11 per cent in the first quarter of the year. And on the seven occasions in the past 27 years that prices fell in the fourth quarter, the average gain in the following first quarter was 16 per cent

IC VIEW:

Buy

Most housebuilders have strong balance sheets, well covered dividends and sizeable land banks. But Persimmon is trading on 6 times prospective earnings per share (EPS) with a dividend yield at its current price of 6.5 per cent. Barratt Developments is on 4 times EPS and yielding 8.6 per cent., which suggests that barring an outright housing collapse, there is just too much bad news already in the price. However counter-intuitive it may seem, at these levels Persimmon and Barratt are long-term buys at 785p and 447p respectively.

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