Result panic prompts 40% share price falls

Housebuilder business models under pressure as investors brace for the worst

Housebuilder shares have been some of the securities hardest hit since last Thursday’s vote to leave the European Union.

When the markets opened on Friday, share price declines of up to 70% emerged, though quickly settled around the 20% mark.

In the early morning panic, few knew how to respond or what the effects would be. A fall in house prices seemed to be the general consensus.

“You have to look at the extent to which housebuilders’ earnings would fall were there to be house price deflation. These are big leverage plays on house price deflation,” said one analyst.

The result took most of the establishment by surprise. Few detailed post-referendum fallout plans were in place. This led to greater uncertainty, which prime minister David Cameron did nothing to control when he resigned.

“What we are seeing is a reaction to the broader economic headwind, which looks to be far deeper than most housebuilders’ business models would imply,” said Adam Challis, head of residential research at JLL.

By the end of Friday, Berkeley Group’s share price was down by 21.1%. Barratt Developments, the UK’s largest housebuilder, was down by 22.7%.

Few finished the day less than 20% down, and the decline continued on Monday morning when markets opened.

Resi share prices

Shares for Taylor Wimpey fell by a further 15.6%. By the close of play, many shares were down by more than 30% cumulatively.

As the dust settled, a number of opinions emerged to explain why the sector had been hit so badly.

Anthony Codling, managing director at Jefferies, offered two reasons.

“The first is uncertainty. People will not make big-ticket decisions. If you are worried about losing your job, you will not buy a house and therefore investors are worried that dividends may be cut.

“Also there is a large proportion of migrant workers in the sub-contractor chain and for them, if the pound devalues, there is less money to earn here and more lucrative opportunities in other countries. This would lead to an increased skilled labour shortage, driving up labour prices.”

The same situation applies for the cost of raw materials.

Simon Rawlinson, head of research and insight at Arcadis, said: “The immediate problem for people involved in procuring construction material is linked to the value of sterling.

“Where people are procuring internationally, there will be an immediate impact on the cost of projects. That was quite predictable.”

Markets started to rally by Tuesday – at the close of play they had risen by up to 7% on the day.

This was in part the result of a Redrow trading note released that morning stating the launch of four schemes over the weekend had gone well.

Other factors emerged to mitigate the fears.

Although the UK could be heading for a technical recession, Help-to-Buy would continue, propping up sales, while labour shortages would not arrive immediately – EU migration is to continue as normal for the time being.

There was also the possibility that with a devalued pound, London schemes struggling with completions would be more attractive to overseas investors and the schemes would be less expensive generally.

Shares had rallied by around 7% on Wednesday but suffered around a 3% decline on Thursday morning. Sentiment around the sector remains jittery.

However, housebuilder share prices do not exactly mirror wider market performance. The key to making sense of the situation is knowing the difference between housebuilders and house prices. Builders are vulnerable to new-build demand ebb and flow. House prices move much more slowly.

“A commercial property REIT has a demonstrably proven NAV, while housebuilders are pipelines of land,” said one researcher.

“If house prices go down, then what they are worth in the future goes down.”

As decreases slow, keeping an eye on political uncertainty, buyer demand and economic performance will be vital.

A recession could lead to a retrenchment among buyers, despite current high levels of demand. Likewise, political uncertainty, and how that affects the UK’s economic future as Brexit negotiations take place, will also hit results.

Meanwhile, curtailed availability of mortgage finance and rising construction costs lurk in the background. Uncertainty is everywhere.

“To be honest, that’s the problem,” says Randeesh Sandhu, chief executive of Urban Exposure. “No one knows what is going to happen. Since Friday we have had our government quit, and pretty much the whole of the Labour Party has quit.”

“Is there going to be less demand for housing and will it be harder to get a mortgage? We don’t know.”

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