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FTSE 350 outlook: housebuilding & construction

Created:

21 January 2008

Written by:

Jonas Crosland

The UK housing sector has been the subject of much debate in recent years, and quite rightly so. The health of the housing market is linked inextricably with consumer sentiment, and from this it is possible to make an educated guess on the prospects for the whole economy.

Over the last few years, all and sundry have queued up around this time of year to be the first to predict a crash in house prices. So far, they have all been wrong, but there is no doubt that house price inflation has been falling steadily. But certainly not as harshly as the way in which housebuilders' shares have been treated over the last year, with the likes of Barratt Developments down 63 per cent, and even Persimmon , one of our top picks, down 47 per cent.

However, the picture is not as bad as the share price performances suggest. Indeed, despite a slowdown in sales and reservations, housebuilders have quite a lot going for them. Interest rates are expected to fall this year, making mortgages less expensive, while a rise in average earnings should help to narrow the affordability gap between earnings and house prices.

What's more, most housebuilders have very strong land banks, low gearing and solid dividend cover. Couple all these factors with low unemployment and an ever-increasing demand for more housing, and the long-term drivers supporting the sector remain attractive. And this is especially so because share price falls this year have left housebuilders on very attractive valuations. Persimmon, for example, is trading on a forecast PE ratio of 5 and offers a yield of 7.5 per cent, while Barratt Developments trades on 4 times forward earnings and yields 9.3 per cent.

True, investors may want to see whether tighter lending conditions - in the wake of the credit crunch - improve before the all-important spring selling season. However, as a longer-term investment, housebuilders already look remarkably cheap.

And building contractors are enjoying a positive outlook, too. Balfour Beatty has a bulging order book that will help to offset the losses it sustained after the collapse of Metronet, while the likes of Morgan Sindall will continue to benefit from further spending on infrastructure in the build up to the Olympic Games.

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