Interactive Investor

Favourite UK housebuilder share named

After a strong run driven by rate cut hopes, one City analyst thinks some in the housebuilding sector can generate further substantial returns. Graeme Evans reveals the stocks to own.

9th May 2024 15:36

by Graeme Evans from interactive investor

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High-yielding Taylor Wimpey (LSE:TW.) has been named a top pick after a City bank found “pockets of value” in a housebuilding sector positioned for the start of interest rate cuts.

In a note published before today’s Bank of England interest rate decision, UBS said it also liked the volume growth record of mid-cap Bellway (LSE:BWY) and the attractive risk/reward of Crest Nicholson Holdings (LSE:CRST).

Shares across the sector maintained their upward run today after the Bank kept rates at a 16-year high of 5.25%, but kept alive the possibility of a cut as soon as June.

Persimmon (LSE:PSN), for example, has now added 10% in May and 20% in the past six months as the improved outlook for interest rates and mortgage availability sustain investor interest.

UBS said the sector’s valuation multiples priced an approximate 50% earnings recovery from current levels, having declined by around 55% on 2022’s performance.

The improvement comes with the sector still in the grips of multiple headwinds, including the challenges of planning policy, fire safety provisions and an ongoing investigation by the Competition and Markets Authority.

While returns are likely to remain below the cost of capital in the short term, the bank believes an inflection point is in sight as affordability concerns have likely peaked and housing policy should improve after the general election.

UBS said: “The speed of the recovery will likely depend on the evolution of house prices, mortgage rates and housing policy.”

Mortgage payments as a percentage of take-home pay have been at peak levels for first-time buyers, with the bank estimating that a return to the 30% long-term average from the current 39% will require mortgage rates to fall to about 2.5% from 4.8% now.

Stability in mortgage pricing has helped demand trends improve from their low base, however. The most recent updates have pointed to sales rates of 0.7 per site per week compared with an average of 0.5 to 0.6 in the latter part of 2022 and first half of 2023.

Against this backdrop UBS said Taylor Wimpey was its preferred volume housebuilder, reflecting its relatively strong cash flows and attractive dividends based on a 7% yield.

The builder is due to make its latest payment tomorrow, when shareholders will receive 4.79p a share and worth £170 million in total. The payout policy aims to return 7.5% of net assets per annum, or at least £250 million annually, throughout the cycle.

UBS has a price target of 160p that represents a total shareholder return of 20%, with Bellway backed to reach 2,980p for a 13% upside when including the 2% dividend yield. The total return for Crest Nicholson is 16%, based on a price target of 225p and 2% yield.

The bank holds “Neutral” recommendations on Persimmon and Berkeley Group Holdings (The) (LSE:BKG), with a “Sell” position on Vistry Group (LSE:VTY). The merger partners Barratt Developments (LSE:BDEV) and Redrow (LSE:RDW) are not rated.

Earlier today, Bank of England governor Andrew Bailey said that a June rate cut is neither ruled out, nor fait accompli.

ING economist James Smith is still leaning slightly towards an August start date for rate cuts, although he admits it’s a close call.

He said: “We’ll get two more inflation readings between now and then, which have the potential to be quite volatile. April is the month when much of the service-sector basket is subject to annual price hikes, and experience from this time last year shows this can be unpredictable.

“Understandably the Bank isn’t wanting to second guess those services CPI figures, which we think could come in slightly higher than the Bank is forecasting in the very near-term.”

These articles are provided for information purposes only.  Occasionally, an opinion about whether to buy or sell a specific investment may be provided by third parties.  The content is not intended to be a personal recommendation to buy or sell any financial instrument or product, or to adopt any investment strategy as it is not provided based on an assessment of your investing knowledge and experience, your financial situation or your investment objectives. The value of your investments, and the income derived from them, may go down as well as up. You may not get back all the money that you invest. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.

Full performance can be found on the company or index summary page on the interactive investor website. Simply click on the company's or index name highlighted in the article.

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