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Housebuilders in meltdown

Created:
11 June 2008
Written by:
Jonas Crosland

It's raining bad news in the house-building sector. This week alone, the Royal Institute of Chartered Surveyors said the housing market is close to its weakest level for 30 years, with 92.9 per cent of residential property agents and surveyors reporting a drop in house prices. Mortgage approvals fell to their lowest level in nine years in April. A sharp rise in factory gate inflation resulted in a complete rethink of interest rate expectations, with swap rates - which are linked to mortgage rates - rising sharply. Finally, and not surprisingly, shares in leading housebuilders slumped dramatically as analysts scrambled to downgrade recommendations.

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Housebuilders had already reported a slump in reservations and enquiries, as the normally busy spring selling season failed to get going.. The likelihood of mortgage costs rising, rather than falling (see Markets point to interest rates rising), will further constrain demand.

Housebuilding shares are now very cheap, but there are widespread fears that they'll need more capital, and that dividends are under threat. Look at Barratt Developments , for instance. Its shares have fallen 95 per cent from last year's peak, to just 67p. Its market value is a just a fifth of its debt.

And Dresdner Kleinwort analysts Alistair Stewart rubbed more salt in the wound by suggesting that the shares are currently not worth buying "at any price". With debts of more than £1.7bn, he reckons that Barratt will have to raise at least £1bn to survive - and that would require a hugely dilutive five-for-one rights issue at a 50 per cent discount. Doubting that such a fund-raising is even feasible, Mr Stewart has withdrawn his price target on Barratt.

Meanwhile, analysts at ABN Amro have warned that land bank valuations may have to be written down by as much as 80 per cent, and the resultant mark-to-market adjustments will clobber profits, - as we have previously warned (see Landed right in it, IC 23 May 2008).

IC VIEW:

Sell

Trading figures due over the next two months are expected to confirm slower sales, squeezed margins and downgraded land values - a triple whammy for profits. The need to raise more capital means dividends across the sector will be slashed. Until the mortgage market unfreezes, all housebuilding shares should be avoided.

See also: Persimmon gets a final kicking

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