Housebuilders: no bargain?

UK housebuilders are selling at ten times earnings. Despite warnings that consumer debt, house prices, and high mortgage multiples are unsustainable, housebuilders have actually been rerated over the last year; last year they were selling at six or seven times earnings. And for a good number of years before that, the housing boom was accompanied by low PERs in the sector.

I rather wonder whether the PER multiples of housebuilders tend to be a contrary indicator of profits. I haven't actually run a datastream chart (I'd be very interested if anyone with more nous on those things could!) but it seems to me that when housing prices were really starting to move, around 1998-9, you could pick up housebuilders at about four or five times, and that continued to be the case. Share prices rose in line with earnings, but there wasn't a wholesale rerating. I've looked at Barratt, every time it had results from 2001 (I couldn't get really good data from before that):

Date Barratt Developments PER House price inflation

April 2001 8 +5%
September 2002 6 +15%
March 2003 5
October 2003 5 +25%
March 2004 5
October 2004 6 +15%
April 2005 5
September 2005 6 +5%
April 2006 7
October 2006 10 +10%

If you look at the years when house prices were really racing, we didn't see a rerating then. We're seeing it now. I wonder if this is a sucker rally?

Now at four or five times earnings, with a humongous yield and trading close to net asset value, housebuilders really were cheap in the early years of this decade. But at ten times earnings - and some are selling for more - they are not. Remember, land bank has to be bought, potentially locking in inventory at inflated prices. Many developers have in fact shown lower average house prices over the last year or so - despite the fact the market as a whole appears to be heading up. That's partly an effect of mix, but none the less it's a negative indicator for margins (which were rising strongly in the early part of the period this table covers) and profits.

What else can you get for ten times earnings? Well, let's look around... Touchstone (TSE) is a client of mine. It's a fine little computer services business which has marked out a niche for itself in Microsoft Business Solutions - and done really well out of being early into that market, particularly with Axapta (as was). It's growing, it pays a good dividend, and it's only on about 10x earnings.