Shares of UK housebuilders, including Telford Homes (LSE: TEF), Taylor Wimpey (LSE: TW) and Berkeley Group (LSE: BKG), have been bouncing back following the initial Brexit shock.
What factors have been driving their share prices and can this nascent recovery be sustained?
Resilient demand
After the initial shock of the Brexit vote on 23 June, a series of trading updates from UK housebuilders showed that buyer interest of new homes has held up resiliently in spite of the referendum outcome. Telford Homes became the latest developer to confirm on Wednesday that new sales had bounced back since the Brexit vote and its growth targets hadn’t materially changed since the outcome of the vote.
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And although there have been some signs that property prices have begun to ease in central London, where people voted overwhelmingly in favour of remaining the UK, elsewhere house prices have continued to increase.
Strong fundamentals
Despite fears of slowing economic growth, there’s a long-term imbalance between the supply of homes and demand in the UK. Strong demand continues to be propped up by the steady employment backdrop and strong consumer confidence.
The ‘lower for longer’ outlook for interest rates, following the Bank of England’s decision to cut rates to 0.25% in August, has also kept the housing market buoyant by boosting mortgage availability. This should at least partly offset concerns about slowing economic growth.
What’s more, the supply of new homes has been in decline for all but a few months of the past two years, potentially exacerbating the chronic supply shortages in the market and driving property prices higher still.
Nevertheless, as last week’s sharp falls in the pound reminded us, the worst may not be over. As the housing market is highly cyclical, house prices are prone to sharp downturns, even if long-term fundamentals are broadly positive.
Attractive valuations
But the low valuation multiples and high dividend yields on offer in the sector can help to protect the downside and yet leave plenty of potential for the upside.
Shares in Telford Homes, which focuses on non-prime London homes, are down by about 25% since the beginning of the year. Expectations are for a slowdown in revenue growth and earnings to fall by about 9% this year, but this has more to do with the timing of development completions, rather than a slowing housing market. Shares in the company trade on 8.2 times its 2017 forecast earnings, and have a forward dividend yield of 5.3%.
However, I believe that Taylor Wimpey and Berkeley Group offer even better value because they’re set to return much more capital to shareholders through dividends in the near term. Shares in Talyor Wimpey and Berkeley Group benefit from absolute dividend targets as opposed to dividends that are pegged to future earnings, and currently trade at forward yields of 7.6% and 8.1%, respectively.
Valuation multiples are similarly attractive, with Taylor Wimpey trading at a forward P/E of 8.6, while Berkeley Group is valued at a cheaper 6.2 times forward earnings. This valuation gap is most likely down to Berkeley’s greater exposure to higher value properties in London and its weaker medium-term development pipeline.
These valuations compare favourably to the FTSE 100’s weighted average forward P/E of over 21 and its average yield of just under 4%.
