Housebuilders still a good bet

These are nervous times for housebuilders and those who invest in their shares. In the past 18 months the latter have subscribed almost pounds 500m in new equity for the former to spend on new housing land.

Out of the carnage wreaked in the late 1980s among the largely contractor-dominated volume builders, several formerly medium-sized regional housebuilders have emerged as the leading players in the 1990s housing land market.

These include Bellway, Berkeley, Bryant, Persimmon, Wilson Bowden and Wilson Connolly, which are seen in the City as the 'quality' housing specialists. They carry investors' hopes of a rapid profit recovery in 1994 and 1995 resulting from land investment in 1992 and 1993.

Will this prove shrewd timing at the bottom of a prolonged, but standard, housing cycle? Or have both parties (equity investors and land- buying housebuilders) been sucked into yet another bout of 1980s boom-bust thinking that will be blown away by a return to a more austere 1960s-style philosophy on the price worth paying for shelter?

These are the key questions behind the decision on whether to invest in highly rated pure housebuilding shares. Other issues like repossessions, unemployment and interest rates are important drivers of the market. The bitter experience of repossession and fear of unemployment are holding back the rate of home sales. Yet in the longer term these issues will be dwarfed by the issue of 1960s versus 1980s social attitudes to housing expenditure.

Repossession rates will be slowly eroded by lower interest rates and a reducing 'tail' of borrowers locked into excessive late-1980s valuations. Unemployment growth has already slowed and possibly reversed.

Fear of unemployment has not yet started to erode but one would expect six months of falling statistics before signs of a shift in consumer attitudes.

Purchaser confidence is clearly 'fragile' and would indeed lurch downwards on an interest rate rise. There is thus plenty of risk, should all the interest rate assumptions be turned on their heads.

Herein lies the great enigma about the housing recovery and housebuilders in particular - they would be massive gainers in the short term from a return to asset-price inflation but losers from the interest rate response this would trigger.

As a proponent of the housebuilder recovery thesis - in contrast with the deeply risk-prone contractors whose only hope can be that the housing recovery does not take off and push up their labour and materials costs - I admit to an element of short-term thinking. I am backing a delayed official response to inflation that will leave room for housing growth in 1994 and 1995 before interest rates are deployed in 1996 to restrain nascent inflation.

Yet I admit, even if the statistics look good, the homebuyer will not take the bait if he really is returning to the credit habits of the 1960s. The nub of the issue is summed up in one key ratio: proportion of income willingly spent on mortgage repayments. Will it be between 15 per cent and 30 per cent, as in the 1970s and 1980s, or are we moving back towards the 10 per cent average of the 1960s?

Compared with the past two decades, the ratio has rarely looked more favourable: 13 per cent for first- time buyers compared with 26 per cent in 1990, 19 per cent in 1979 and 12 per cent at the start of the first big property boom in 1972. Measured against the ratios prevalent in the 1960s, however, it still looks too high.

The choice is simple: either society has tripped three decades backwards in its spending, saving and borrowing habits, or the conditions are in place for a housing recovery.

The verdict lies in the hands of 15 million households. But my vote goes with the conventional cycle of the past quarter-century, despite the shocks administered to purchasers in the past five years.

Jamie Stevenson is building analyst at Kleinwort Benson Securities.

Jim Slater is on holiday.