There are some cracking dividend yields available in the market today. But few are as high as the 9.5% offered by FTSE 100 housebuilder Persimmon (LSE: PSN). With the company also trading on a bargain-basement forward price-to-earnings (P/E) ratio of 9.1, it appears to offer outstanding value.
Elsewhere, FTSE 250 plastic piping specialist Polypipe (LSE: PLP) reported half-year results this morning and said its performance was “driven by continued strong growth in new housebuilding.” Its shares are up 5.6% at 375p, as I’m writing, and I’ll come back to this stock after first looking at Persimmon’s prospects.
History
I turned bearish on housebuilders last autumn, rating Persimmon a ‘sell’ in October at 2,800p and again in January at 2,710p. With the shares now down to 2,470p, are today’s cheap earnings rating and whopping yield simply too tempting to ignore?
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Housebuilders have enjoyed almost a decade of booming profits. The problem for investors in this historically boom-and-bust sector is that the market begins to price-in the next bust even while fundamentals appear robust. Back in February 2008, Persimmon posted a record profit of £414m and was confident that there remained “an underlying demand and desire for new homes.” However, the shares had already lost 50% of their value by then and the P/E had fallen to 5.5. A year later, the company posted a £625m loss and ditched the dividend. The peak-to-trough decline in the share price over two years was more than 85%.
Things that can’t go on forever, don’t
The market correctly predicted the last housebuilding bust and now appears to be starting to price-in the risk of the next. I see potential for demand and pricing for new homes to plummet. Interest rates are now entering a rising cycle (not generally good for housbuilders), there’s political risk (e.g. an early withdrawal of the government’s Help to Buy scheme) and Brexit presents a range of potential headwinds (availability of skilled labour and rising labour and materials costs) and even the risk of a full-blown economic recession.
Now, there may not be a perfect storm, but the scale of the likely collapse of housebuilders’ share prices should there be, leads me to take a cautious view. I believe selling Persimmon and banking profits at this stage is a prudent course.
Exposed pipework
Polypipe manufactures plastic piping systems for heating, plumbing, drainage and ventilation. It has some geographical diversification (little more than 10% of first-half revenue came from outside the UK) and it supplies the commercial and infrastructure sectors as well as residential. Well over half of H1 revenue and two-thirds of operating profit came from residential.
Residential revenue was 5.9% higher than in the same period last year, with new housebuild more than offsetting weakness in the repair, maintenance and improvement markets. Revenue in commercial and infrastructure was down 6.6%. The company expects the outlook to remain mixed in the second half but to deliver full-year results in line with expectations.
At the current share price, the forward P/E is 13.2, based on forecast 5% earnings growth, and the prospective dividend yield is 3.1%. For a company with significant indirect exposure to the risks faced by Persimmon, I don’t see the earnings rating as offering anything like a big enough margin of safety. As such, I also rate this stock a ‘sell’.
