U.K. Homebuilders: Investors Remain Too Focused on Near-Term Pain Rather Than Long-Term Gain

The U.K. homebuilders continue to screen attractively despite a fresh look at a number of our key U.K. housing market assumptions and consequent revisions to our financial estimates for most of our U.K. homebuilder coverage. Undoubtedly, U.K. homebuilders are staring down a difficult 2023 where profit margins are coming under considerable pressure from a combination of soaring build cost inflation and the effects of a housing market, which has entered a period of cyclical decline—causing home completion volumes to sharply contract and placing pressure on house prices.

Still, we think investors remain overly focused on the near-term pain while overlooking the long-term fundamentals for the U.K. homebuilders, which remain robust. Broadly speaking, we see value across our coverage of the industry relative to our unchanged respective fair value estimates for no-moat Barratt Developments BDEV, no-moat Taylor Wimpey, no-moat Persimmon, no-moat Bellway and no-moat Berkeley Group of GBX 710, GBX 190, GBX 2,300, GBX 3,750, and GBX 4,800. Persimmon is our top U.K. homebuilder pick, with shares trading at a depressed price/tangible book value ratio of 1.3—versus a 5-year average of 2.4—and a steep 40% discount to our valuation.

Notably, we’ve lowered our medium-term house price growth expectations following close inspection of recent trends in U.K. house prices, mortgage interest rates, and rental yields. We expect the recent surge in borrowing costs for U.K. homeowners will keep a lid on house prices in the near term, with modest annual price growth in the range of about 1%-1.5% expected over the 2023-25 period. Consequently, we’ve tempered our expectations for homebuilder gross margin recovery in 2024. We previously expected strong average selling price growth in 2024 would bring with it much-needed relief to profit margins.