The house-building sector has been on a fantastic run this decade, boosted by the government's 'Help to Buy' initiative, which some critics have suggested has been more effective in boosting house-builders' profits than in making houses more affordable to first-time buyers.
This year, however, the FTSE 350 Household Goods Index, which includes the house-builders, has fallen from around 18,500 to around 16,400, suggesting the market's love affair with the sector has soured.
A bit of Carney carnage
On Thursday morning, Mark Carney, the Bank of England governor, poured a bit more cold water on sentiment as he hinted that an interest rate hike could be on its way next month.
Carney said inflation pressures continued to build and pundits were quick to see this as a hint that the central bank is ready to raise interest rates.
The minimum lending rate, as it used to be called, is the central bank's primary means of controlling inflation - “dearer money” means there is less money about so, according to the laws of supply and demand, prices should drop – but higher interest rates generally constrain economic growth.
Nevertheless, Carney further indicated the bank's readiness to risk a rate rise by saying the bank's pointy-heads were increasingly confident that the UK economy's flaccid start to the year had been primarily due to the poor weather.
Even without the prospect of a rate rise, which will make mortgages more expensive and thus hit the housing market, stock market commentators were beginning to wonder whether house-builders were about to find things getting a bit trickier henceforth, despite strong trading updates this morning from Bovis Homes Group PLC (LON:BVS) and Persimmon PLC (LON:PSN).
Bovis said that it expects a "significant step up in profitability" in the first half after completing more homes than expected.
Total completions stood at 1,580 in the six months ended June 30, up 4% from 1,512 the same period a year ago.
The company was one of the first in the sector to fall out of fashion but that was primarily because of issues that were specific to the company, namely quality issues.
Bovis is increasing margins while also improving build-quality
“The main point from Bovis's H1 update is that customer quality issues continue to improve, with customer satisfaction now running above 80%,” noted Liberum.
“Completions are in line with last year (1580 v 1512) but margins are ahead (but not yet specified). Its sales rate was up on last year (0.52 v 0.48), still deliberately slow so that quality can be sustained,” the broker added.
“The shares trade on 1.4x book (2018E) and 12x PER, meaning that the market is still pricing in improving performance, rightly, but this limits upside as much of the recovery is priced in,” the broker suggested.
The golden period for the house-builders has seen many of them distribute surplus funds – defined by some as funds available after the executives have removed their snouts from the trough – to shareholders, and it is often the dividend yield now that is the primary appeal of holding the shares rather than growth prospects.
Bovis finished the first half of the year with net cash of around £40mln with the business still on target to deliver £180mln of cash by the end of 2018 so it is not down on its uppers.
As one broker observed, “the dividend yield is over 9% for both 2018 and 2019,” which is normally the sort of level offered by companies considered to be in deep trouble.
Talking of executives with their snouts in the trough, the whiff of scandal that surrounds the remuneration policies of Persimmon PLC (LON:PSON) will not go away.
Russ Mould, the investment director of wealth management firm AJ Bell, mentioned the boss's pay in his analysis of Persimmon's results.
“Persimmon, which has attracted criticism for its levels of executive pay, also revealed that chief executive Jeff Fairburn is paid 3,000 times more than its lowest paid worker – a revelation which could keep the excessive pay issue in the spotlight for the company,” Mould said.
Some worrying signs for the sector
The AJ Bell mouthpiece said growth reported this morning by both house-builders would help reassure a sceptical market on the prospect for the sector, but added there are some more worrying signs beyond the headline advances in revenue and profit.
“It is clear from both statements that the housebuilders are no longer able to rely on house price growth to drive their returns. Although the number is affected by a larger number of affordable home completions, Bovis’ average selling price is down from £277,400 to £261,000 year-on-year in the first half.
“Persimmon’s own average selling price creeps up 1.2%. The question remains on how profitability will fare when supportive factors like low interest rates and the Help to Buy scheme are removed,” Bell said.
Neil Wilson, of Markets.com, said it has been “easy pickings” for the house-builders in recent years but it seems profitability may have peaked.
“Investors have become less impressed by excessive executive pay, but results today from a couple of culprits suggest the market remains on solid foundations,” he suggested.
The regeneration game gets overlooked
Meanwhile, regeneration specialist M J Gleeson PL|C (LON:GLE) has had a better year than most in terms of share price - it's barely changed – but even it suffered today, shedding 2% at 782p despite some strong numbers.
Gleeson Homes delivered its largest annual volume growth, selling 1,225 homes during the year to the end of June, an increase of 212 units (20.9%) compared with the previous year's total of 1,013.
Volume completions were a little above market expectations.
The group continued to generate strong cash flows and increased its cash balances at 30 June 2018 to £41.3mln from £34.1mln a year earlier.
It's not one for shovelling the cash out to shareholders, however; it has a land promotion business that enhances the value of land by securing mainly residential planning consents, predominantly in the South of England, and appears to prefer to spend the money on that.
Heaven knows the UK could do with a much larger housing stock.