It may sound strange to talk about housebuilders such as Barratt (LON:BDEV) and Bellway (LON:BWY) as turnaround opportunities. After all, the two stocks are up 136% and 163% respectively in the last five years. However, in the last month their shares are 11%+ lower after the government announced potential plans to crack down on land banks.
Clearly, this is a potential risk facing both companies. But with a strong housing market, favourable trading conditions and low valuations, both stocks appear ready to recover.
Government policies
Successive governments have sought to deal with the housing crisis facing the UK. However, judging by the state of the market in terms of the imbalance between supply and demand, they have not been successful.
The latest idea is to potentially introduce a ‘use it or lose it’ rule with regards to land purchased for the purpose of housing development. In theory, this should ensure that the vast land banks which are owned by a range of major housebuilders can come into play more quickly, and could lead to more houses being built over the medium term.
Whether the policy comes into force and how effective it could be are clearly known unknowns. However, even if it does, the government’s demand-side policies on SDLT relief and the Help to Buy scheme could offset a more aggressive supply-side policy on land banking. Therefore, major housebuilders such as Barratt and Bellway may continue to enjoy strong overall trading conditions.
Economic outlook
Further, the availability of mortgages is set to remain high over the coming years. Although a higher level of inflation plus continued economic resilience in the UK may lead to a more hawkish monetary policy, interest rates are still likely to be well below historic levels for a number of years. This could mean that even at their highest-ever levels, house prices remain affordable for first-time buyers when the government’s demand-side policies are factored in.
Investment outlook
In spite of the generally positive market outlook for housebuilders, their valuations remain low. For instance, Barratt has a P/E ratio of 9, while Bellway’s rating is 8.3. Both shares are forecast to report EPS growth of at least 6% per annum over the next two years, which suggests that they are undervalued.
With large margins of safety, upbeat forecasts and a fundamental lack of supply, housebuilders such as Barratt and Bellway could be strong turnaround opportunities.
Of course, both companies may experience difficulties not only from the government’s potential supply-side policies, but also from Brexit. As things stand, there remains uncertainty regarding a transitional period and a possible deal between the UK and EU. Uncertainty regarding these areas could cause investor sentiment towards UK-focused companies to deteriorate.
However, with large margins of safety, upbeat forecasts and a fundamental lack of supply, housebuilders such as Barratt and Bellway could be strong turnaround opportunities. Their prospective dividend yields of 7.8% and 4.4% could become increasingly popular if inflation remains relatively high. Therefore, from a total return perspective, they appear to offer investment potential despite their unpopular status among most investors.
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