The recent share price weakness of house-builders offers a buying opportunity, according to Deutsche Bank.
Based on projections for 2018, the sector trades at 1.4 times price/net tangible asset value or 8.8 times annual earnings and offers a dividend yield of 6.4%, Deutsche (DB) said.
On that basis, Deutsche believes the sector offers good value despite the continued elevated risk profile.
“Over the past months, the perception of political and economic risk has risen. For us, most of these factors of concern we see only having a more limited impact and are already more than reflected in share prices (rising interest rates, GDP ests moderating, Help to Buy uncertainty post-2021, elevated ROCE [return on capital employed] and management pay),” DB observed.
If management teams at the house-builders get too greedy, the government may be forced to take action, but the key political risk of major concern in DB’s view is a change of government.
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Its top picks in the sector are the cheaper stocks; its preferred picks are Barratt Developments PLC (LON:BDEV), Bovis Homes Group PLC (LON:BVS), McCarthy & Stone PLC (LON:MCS).
Reflecting the strong price performance and DB’s more conservative view on London compared to the rest of the country, Berkeley Group PLC (LON:BKG) has been downgraded to ‘hold’.
For those house-building stocks that are in the FTSE 100 (Barratt, Persimmon, Taylor Wimpey and Berkeley), DB believes the dividend yield will be a “meaningful differentiator” in 2018, especially given the strong free cash flow and balance sheet coverage in the sector.
“The mid-caps, despite capital being reinvested back into the business to a larger degree, also screen well on dividend; however, it is Bovis with its special cash that provides the highest yield in the sector,” DB noted.
Many in the sector have been paying out special dividends as a result of being awash with cash, and DB calculates that even if the builders continue to invest in land, the strong cash flow generation should continue to generate surplus cash.
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“If the companies were to return all net cash, this would imply up to 18% additional yield to 2020. The stocks with the largest net cash positions relative to market cap in 2017 are Persimmon and Barratt. The stocks with the most significant coverage of dividend by free cash flow are Bovis, McCarthy & Stone, Persimmon and Berkeley,” DB said.