Homebuilders in U.K. Defy Recession in Cameron Rescue: Mortgages

The U.K. is mired in its second recession in three years and business confidence is at a record low. You wouldn’t know it from homebuilder stocks, as an industry index beats the FTSE 100 Index (UKX) by more than 10 times.

Barratt Developments Plc (BDEV), the most prolific builder, which once sold a house to Margaret Thatcher, has been the star performer with a 86 percent gain this year. Like competitors, it’s set to profit from government efforts to stimulate growth in a business that’s been hurt by fewer mortgage approvals and falling prices. The plan includes relaxing construction guidelines and making it easier for first-time buyers to take out loans.

“The cash-generating profile of these companies is beginning to make people sit up and take notice,” said Simon Brown, an analyst at Northland Capital Partners Ltd., which has an “add” rating on Leicestershire-based Barratt. “If we see just a small loosening of credit in the U.K. mortgage market, homebuilders should be able to outpace the market by 4 percent to 5 percent by the year end, possibly more.”

The government is counting on homebuilders to deliver as many as 70,000 new properties thanks to less stringent planning rules, while adding 140,000 jobs to the ailing economy. Since demand peaked in 2007, Barratt, Persimmon Plc and Taylor Wimpey Plc (TW/) have become more profitable by building homes at lower cost.

The Bloomberg EMEA Home Builders Index rose 2.9 percent today to the highest since June 2008. The index has climbed 52 percent this year, compared with a gain of 6.2 percent for the FTSE 100 Index.

Land Banks

The biggest savings have been on land. Homebuilders have taken advantage of falling prices to build up holdings of land in anticipation of rising home prices in the years ahead.

“That’s working its way into their numbers,” said Gary Channon, chief investment officer of Phoenix Asset Management Partners Ltd., which owns about 5 percent of Barratt.

They’re also building more houses rather than apartments to capture the higher margins that come with larger residencies, particularly in the southeast of England, where the government has identified a shortage of homes.

“Housebuilders do not need the market to recover in order to deliver earnings growth,” Anthony Codling, an analyst at Jefferies & Co., said in a Sept. 11 note to investors.

Persimmon (PSN), the U.K.’s largest homebuilder by market value, widened its operating margin to 12.2 percent in the first half from 9 percent a year earlier. Taylor Wimpey, the No. 3 company in the industry, increased its margin by 2.3 percentage points to 11.1 percent during the same period, while Barratt’s rose to 8.2 percent from 6.6 percent in fiscal 2012.

Expanding Margins

Margins are expanding after the housing market’s collapse in 2008 forced homebuilders to slash costs to compensate for a slump in demand. At the same time, they exploited falling prices to snap up land cheaply. Companies “were forced to adopt a siege mentality and take some tough decisions,” Codling said in his note. “They turned out to be the right ones.”

Land values declined throughout England for five straight quarters starting in the first three months of 2008, including a 23 percent drop in urban land in the third quarter of that year, broker Knight Frank LLP estimates. By the end of 2009, land prices had dropped as much as 60 percent from their peak two years earlier.

Homebuilders including Taylor Wimpey, Bovis Homes Group Plc (BVS) and Redrow Plc (RDW) raised more than 1.65 billion pounds ($2.67 billion) selling shares as the housing slump eased and the prospect of acquiring plots became attractive again in 2009. Barratt spent 1.31 billion pounds on land in fiscal 2008 and 2009 combined, according to a company statement.

‘Significant Rebound’

The purchases set homebuilders up for a “significant rebound,” Citigroup Inc. analysts including Clyde Lewis said in December 2009.

Berkeley Group Holdings Plc (BKG), the U.K.’s second-largest homebuilder by market value, paid about 12 million pounds for an office property in the City of London financial district in August 2010. The building was erected in the 1950s and had been vacant since December 2007, the Cobham, England-based company said.

Berkeley is now building 90 homes on the site, ranging from studios to three-bedroom apartments. Residential real estate in the district has gained 13 percent in the two years since Berkeley acquired the site, according to London-based Knight Frank.

Fewer Mortgages

U.K. banks have reined in lending to comply with stricter capital rules even as interest rates have fallen to record lows. Mortgage approvals are at less than half their monthly average in the decade to 2007, before the financial crisis struck. Business confidence fell to a record low last month and the economy shrank 0.5 percent in the second quarter.

Housing measures continue to point to a “sluggish” market where prices continue to fall, the Royal Institution of Chartered Surveyors said Sept. 11. Mortgage-lender Halifax said on Sept. 6 that real-estate prices fell for a second month in August and will probably remain little changed into 2013.

“The general housing market across the U.K. is quite depressing and it will continue to be depressing until the government decides to give it some sort of boost,” said Nick Candy, who helped conceive One Hyde Park, the U.K.’s most expensive apartment complex. ’’If they can bail out banks with huge amounts of quantitative easing, they can help first-time buyers, can’t they?’’

‘Mini-Resurgence’

House prices increased for the first time in three months in August as demand rebounded from an early summer lull, Acadametrics Ltd. and LSL Property Services Plc said today. The improvement was a “mini-resurgence” following slow activity tied to an extra public holiday and historically heavy rainfall, said Richard Sexton, director of LSL’s e.surv business.

Prime Minister David Cameron’s coalition of Conservatives and Liberal Democrats is seeking to make it easier for home buyers to get a mortgage and giving breaks to homebuilders.

It also has tried to bolster the housing market by easing planning laws and reducing the down payments needed by some first-time buyers. The government is loosening the requirement that building projects include social housing and low-cost homes to spur work on sites wouldn’t have been profitable, the government said Sept. 6.

The Bank of England and Treasury started an 80 billion- pound loan-funding program last month to make it cheaper for banks to lend and boost household credit.

The ability of Britain’s homebuilders to continue to flourish “is going to center on the ability of the government to achieve in part their desire to see greater stimulus on new house-building,” Brown of Northland said in a telephone interview.

Loan Guarantee

Starting in the second quarter, more people seeking a new home were able to get a mortgage equal to 95 percent of the property’s value. The loans include a guarantee shared by the government and the homebuilders that protects lenders from some losses they would incur in a default.

Barratt, which builds everything from social housing to new family homes and inner city residential properties, said in March that about 20,000 people had registered with the company to buy their homes using the state-backed mortgages.

The government-led program, called New Buy, should be made more widely available to spark economic growth, Persimmon Chief Executive Officer Mike Farley said in an Aug. 21 interview with Bloomberg Television.

“If we can come up with a scheme that avoids the necessity of putting down a 20 or 25 percent deposit that’s the real key to unlocking the first-time buyer movement,” Farley said. “The issue isn’t so much affordability as such it’s finding those large deposits.”

Savills Survey

Despite the government’s support, a Savills Plc survey of more than 800 people in the residential real estate industry showed homebuilder profits are expected to slow next year. A weakening global economy and the risk of a major external event overtook lack of finance as the top perceived risk, the London- based broker said.

“They’re pretty pessimistic about the economy,” Yolande Barnes, Savills’ head of residential research, said in an interview.

The government’s homebuilding initiatives introduced in March haven’t yet produced the anticipated results. Planning permission for new homes fell 32 percent in the second quarter from the previous three months to less than half of the 55,466 granted in the same period of 2007, according to data compiled by researcher Glenigan Ltd. for the Home Builders Federation published Sept. 10.

‘Simple’ Rationale

Still, builders may not need a government-led increase in lending and home buying to continue to see profits increase because the industry’s recent success hasn’t come on higher volume. Even though about 245,000 homes a year in the decade through 2023 need to be built to meet demand, new-home completions last year were at the lowest during peacetime since 1924, according to the Department for Communities and Local Government.

“The investment case for the U.K. house building sector is a simple one: we are not building enough houses and the supply gap is growing not shrinking,” Jefferies’ Codling said.

To contact the reporters on this story: Christopher Spillane in London at cspillane3@bloomberg.net; Jeffrey St.Onge in London at jstonge@bloomberg.net

To contact the editors responsible for this story: Andrew Blackman at ablackman@bloomberg.net; Rob Urban at robprag@bloomberg.net

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