Homebuilders Eye Election Boost From Long-Awaited UK Reforms

(Bloomberg) -- Britain’s two main parties have promised to make housing a priority after the country’s general election on July 4, boding well for homebuilders.

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After a sharp rebound in late 2023, the UK real estate sector has been performing in line with the FTSE 350 Index since the start of the year, rising about 6%. Subdued demand amid elevated interest rates has capped the upside, even as the country suffers from chronic housing shortages.

While many voters will say they’ve heard it all before, the opposition Labour party appears particularly determined to boost homebuilding after 14 years of Conservative rule. Led by Keir Starmer, the party has a thumping lead in the polls and wants to take advantage of widespread discontent about soaring rents, high home prices and mortgage costs.

“Planning reforms, if implemented, could favor UK homebuilders,” said Goldman Sachs Inc. strategists including Guillaume Jaisson. “These companies have close to 100% domestic revenue exposure and would benefit from any improvement in economic activity.”

Jaisson sees homebuilders as the main beneficiaries of receding political uncertainty post elections, along with other domestic equities such as UK small caps or the FTSE 250, which has lagged its large-cap peer FTSE 100 by 23 percentage points since the start of 2022.

In its manifesto published Thursday, Labour reiterated plans to build 1.5 million homes in the next five-year Parliament session, aided by reforms to planning rules the party says has made it too easy to block construction. That averages to 300,000 new homes per year, up from roughly 240,000 in the past five years, according to the Housing Federation.

The Tory Party has also pledged to build more homes, vowing to introduce a new Help to Buy scheme in the unlikely event it wins the ballot, while abolishing stamp duty for homes worth up to £425,000 ($543,000).

Still, political stability and reforms may not be enough to fully revive the sector, as interest rates will likely be the main driver for demand over time. Since the first Bank of England rate hike in December 2021, the Bloomberg UK Homebuilders Index has plunged 22%, while the broader market is up 10%.

Higher mortgage interest payments have been a drag on UK consumers and the start of a rate-cut cycle would provide relief. The swaps market is expecting one or two cuts by the end of the year, but like for other central banks, the Bank of England’s decisions are strongly data dependent. High levels of government debt, sticky inflation and wages are likely to keep rates higher for longer.

This week, the housing market cooled as hopes of an imminent UK rate cut faded, according to the Royal Institution of Chartered Surveyors. Their index of new buyer demand fell to the lowest level since November, while gauges of home prices and the number of agreed sales also dropped.

“The delay of expected Bank of England rate cuts, which lifted mortgage rates further, may keep the UK housing recovery in the slow lane,” said Bloomberg Intelligence real estate analyst Iwona Hovenko, seeing limited impact from elections. “Developers’ reservations have improved vs. 2023, though they may remain relatively stable over the summer against current levels, absent near-term catalysts or easing in mortgage rates.”

Meanwhile, valuations are giving a mixed picture. Based on price-to-book, the sector looks very cheap, trading at 1.2 times, about 30% below the historical average and similar levels seen at the bottom of major crisis such as the aftermath of the Brexit referendum or the Covid-19 pandemic.

Yet, price-to-earnings ratios show a very different picture with the forward P/E of the sector at 15, well-above its 10-year average of 12.5, and near the top of the range over that period.

The reason lies with earnings, which haven’t yet recovered from the lackluster housing market and the shortages in materials and labor that have weighed on margins and limited production, according to Goldman Sachs. Its analysts note consensus expects 2026 earnings to be 50% above 2024, while margins are seen kept in check by high input costs.

On average, analysts remain relatively cautious, with just 4% returns expected over the next 12 months on average for the sector, an underwhelming outlook compared with the 15% upside seen for the FTSE 350 Index, according to the Bloomberg consensus.

“Housing will likely be core to the upcoming elections, with the focus on affordable housing, unlocking land for development and reforming the planning system,” said JPMorgan Chase & Co. strategists led by Mislav Matejka, who have an overweight stance on UK equities, with preference for domestic stocks. “Homebuilders typically show a turn at the start of rate cuts.”

--With assistance from Stuart Biggs.

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