With interest rates recently cut to 0.25% and having the potential to move lower, high yields are likely to prove popular among investors over the coming years. Not only do they provide the opportunity for a high income return, they may also deliver excellent capital gains because of higher demand from investors. Today’s updates from housebuilders Berkeley (LSE: BKG) and Redrow (LSE: RDW) provide clues as to whether they fit the bill as dividend plays.
Berkeley
In Berkeley’s case, its performance has picked up since the EU referendum. Reservations in August have returned to the relative levels reported for the first five months of the year following a hiatus either side of the referendum. It remains confident of meeting guidance for the delivery of £2bn in pre-tax profit over the three-year period to April 2018 and this should allow it to pay out on its planned £10 per share in dividends over the next five years.
Should Berkeley be able to meet its dividend guidance between now and 2021, it will yield over 36%. On an annualised basis this works out as a yield of 6.4% and this puts it towards the top of the FTSE 350 high-yield leaderboard. Certainly, there’s a risk that the UK housing market will come under pressure and Berkeley discusses the potentially negative impacts of higher property taxes on London in particular in today’s update.
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However, dividends represent 52% of profit, which indicates that Berkeley has significant headroom when making shareholder payouts. As such, it’s a top notch income play for the long term – especially if a loose monetary policy persists in 2017 and beyond.
Redrow
Also reporting today was fellow housebuilder Redrow. It has delivered a third consecutive year of record profitability, with its sales rising by 20% driven by a 17% increase in legal completions and a 7% rise in its average selling price to £288,600. Operating margins increased by 40 basis points to 18.9% and this contributed to an increase in pre-tax profit to a record £250m, which is 23% higher than last year.
Unlike Berkeley, Redrow isn’t a high-yielding stock. It yields 2.8%, which is less than half of Berkeley’s yield. However, Redrow has a dividend payout ratio of just 23%, which indicates that dividends could rise at a significantly faster pace than profit. In fact, if Redrow were to pay out the same proportion of profit as Berkeley does, it would already be yielding 6.3% and over the medium term, that’s a realistic expectation provided Redrow’s profitability keeps moving upwards.
Looking Ahead
The question, of course, is how the UK property market will fare during and after Brexit. Clearly, this is a highly uncertain time and while monetary policy will adapt, it seems unlikely that house prices will rise at the same pace as in previous years. That’s because demand could be hurt by higher unemployment and greater risk-aversion among investors.
However, with demand still outstripping supply and mortgages becoming increasingly cheap to service, the income returns from Berkeley and Redrow look set to be relatively high over the long term.
