UK housebuilder joins favourites list after upgrade

A buy upgrade today placed Persimmon (LSE:PSN) alongside Taylor Wimpey (LSE:TW.) and Barratt Redrow (LSE:BTRW) as the favoured stocks of a City bank in a sector offering a potential 18% total return.

Bank of America believes recent share price weakness and prospect of a dovish pivot by the Bank of England leaves housebuilders at a particularly attractive entry point.

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The bank regards the Persimmon valuation as compelling, particularly as its affordable position in the new homes market means it should benefit the most from interest rate cuts.

As well as lifting its recommendation from Neutral to Buy, the bank increased its price target to 1,350p from 1,260p previously. Combined with a 5.2% dividend yield, Bank of America’s stance points to a potential 18% total shareholder return.

Existing Buy-rated stocks Barratt Redrow and Taylor Wimpey trade with forecast returns of 32% and 25% respectively, driven by target prices of 540p and 130p.

Berkeley Group Holdings (The) (LSE:BKG) and Vistry Group (LSE:VTY) are rated at Underperform and Bellway (LSE:BWY) at Neutral, leading to an overall potential return of 18%.

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Shares in the sector are down by 4% year-to-date, including a 6% fall in the last week after sentiment was shaken by Rachel Reeves’ tearful appearance at Prime Minister’s Questions.

The bank’s base case remains that the chancellor will remain in post and undertake fiscal consolidation to restore headroom, most of which is likely to come through tax rises.

This and slower growth will inevitably dampen buyers' sentiment but it also makes the bank’s forecast of Bank of England’s rate cuts more compelling.

The bank said: “Further rate cuts would likely bode well for Persimmon's more affordable products and high presence among first-time buyers - this customer group is likely to be most sensitive to any affordability improvement.”

Persimmon’s average selling price is around £270,000, the lowest among the six builders in the bank’s coverage. About 31% of its buyers are first time, down from 50% historically and broadly in line with Taylor Wimpey.

The bank adds there is considerable pent-up demand and that the UK job market is still holding up reasonably well, which should make committing to a mortgage less difficult.

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It also flags that 25% of Persimmon’s units use timber frames, with the potential for this to rise to 50% in support of a mid-term margin target of 20% versus 14% now.

In terms of its other Buy recommendations, the bank said Taylor Wimpey’s quality landbank and healthy balance sheet bode well for capturing upside potential when market demand returns. It also flags a dividend yield of 8%, which compares with the sector at 5%.

It adds that Barratt Redrow now has a clearer growth trajectory, supported by growth in the number of outlets and a gradual recovery in market demand and the sales rate.

The company has also outlined a mid-term 15% earnings margin and 20% return on capital employed. “Not all housebuilders can guide with such visibility,” the bank said.