Lloyds Banking Group PLC (LSE:LLOY), Berkeley Group Holdings PLC (LSE:BKG) and Bellway PLC (LSE:BWY) are the top picks from UBS as it carried out a large consumer survey on the UK housing market, which revealed affordability remains stretched but that house prices are proving to be more resilient than previously feared.
The annual survey of more than 3,000 individuals by the UBS Evidence Lab team found 60% of respondents expecting an increase in mortgage rates over the next 12 months, with 31% of respondents due to remortgage in the next year.
Household financial positions remain under pressure, the survey found, with 47% of respondents enduring a fall in discretionary income during the past year, compared to an average of 29% over the previous seven polls going back to 2016.
Looking to the year ahead, respondents expect a “broadly unchanged” financial positions.
There are “limited signs of buying intentions improving”, the analysts said, with 53% of respondents finding it difficult to find an affordable property to live in, compared to a 43% average over previous surveys, and 39% “unlikely” to buy a property, up from a 26% average.
High house prices remain the biggest buying constraint at 68%, followed by mortgage affordability at 42% and the size of deposit required at 33%.
Mortgage rates above 5.5% for a prolonged period "present a significant challenge for first-time buyers in particular who have higher loan-to-value demands and lower median income than the mortgage market as a whole", the analysts wrote, noting UK median income is £32k per annum, while Lloyds and NatWest mortgage customer medium income is nearer £70-72k.
The Bank of England has estimated that 1.9 million households are on fixed-rate mortgages that will be up for renewal during 2023, with 1.3 million in 2024 and 0.8 million in 2025.
But the survey and industry data suggest various changes happening in the market, including higher debt costs, are driving a slowdown in mortgage growth, a reduction in house purchase finance volumes, faster remortgaging (with OSB Group a recent casualty), longer mortgage durations, a rise in the share of floating rate loans, more price-sensitive customers, and increased demand for interest-only advances.
"Overall we think the housing and mortgage markets will prove more stable than is assumed by many in conversations we're having," the analysts said.
"UK banks and their retail customers have good reason to continue to see residential mortgages as an attractive product to produce and consume respectively. Most activity is driven by real life rather than financial engineering, most evident in the relative stability in housing transactions over time."
Looking at the stock preferences of UBS against this background, among UK housebuilders “pockets of value” are seen but analysts think “the recovery path remains uncertain”.
However, on balance, valuations look “reasonably attractive”. Top picks are Berkeley for its “quality and relative resilience” and Bellway, which “looks cheap at 0.7x P/TNAV and strong growth track record”.
UK banks are “relatively out of favour within the (discounted) European bank sector”, trading at 5.5 times 2024 expected earnings per share and with an implied cost of equity of 16%.
Lloyds is the top pick for UBS of the UK domestic lenders at 6.2 times 2024 forecast EPS and with a total distributed yield of 13%.
For relevant retailers, key ideas for UBS are Howden Joinery as a ‘buy’ given “solid management and strategy execution” and Kingfisher PLC (LSE:KGF) as a ‘sell’ given “downside potential on sales, profits and free cash flow versus consensus”.