Back in 2013 investors were clamouring for exposure to building materials companies which were leveraged to rising levels of house and apartment builds both here in Australia and in the USA.
It proved to be a shrewd portfolio move with many stocks in the sector including Brickworks Limited (ASX: BKW) and CSR Limited (ASX: CSR) experiencing strong share price rises. In fact these two stocks experienced gains of approximately 25% and 30% over the 2013 calendar year.
Do current prices already reflect peak market conditions?
Despite generally positive ongoing data in 2014 – recent housing data does suggest the peak in the cycle may have been reached. With the exception of CSR which has rallied a further 34% in calendar year 2014, many other building material stocks appear to have run out of puff with the sector losing investor momentum. In fact, Brickworks share price has fallen 7% this year. The question now for investors is whether there is still value in this sector or has this trade run its course…
Brickworks is a less leveraged play on the building sector which can be viewed as both a positive and a negative for investors. For investors looking for a leveraged play on housing, Brickworks is diluted by its other divisions. On the flip side, this diversity offers protection from the eventual turn in the cycle.
In financial year (FY) 2014, Brickworks reported a 1% increase in normalised earnings per share to 68.4 cents per share (cps) and increased the dividend paid by 4% to 42 cps. Importantly, the group experienced a solid uptick in volumes within its building products division in the second half.
This higher level of activity is likely to flow through to ongoing buoyant volumes within the building products division for some time. As such shareholders should see continued strong earnings from the building materials division over coming reporting periods. The bigger unknown is how the other diversified interests of Brickworks which includes property assets, coal assets via its indirect interest in New Hope Corporation Limited (ASX: NHC) and its shareholding in Washington H. Soul Pattinson and Co. Ltd (ASX: SOL) will perform. Coal prices remain depressed and property earnings are lumpy. However, on balance there would appear to be more upside opportunity than downside risk for investors owning the stock at current prices which are close to its 52-week low.
Arguably the sector’s top performing stock, CSR released its half yearly results last week (the group has a 31 March financial year end) and the results were great. Revenue jumped 15% to $1 billion and earnings surged 86% to $114.1 million. Importantly for income-seeking investors, the board also raised the interim dividend a massive 70% to 8.5 cents per share.
While CSR experienced buoyant housing construction demand the jump in earnings was boosted by a recovering aluminium price and the benefit of a weaker Australian dollar which not only improved the translation effect of the aluminium division which is exposed to US dollars. However, the weaker currency also looks to have benefitted the underperforming Viridian glass division whose biggest competitor is cheap imports.
While CSR’s strong share price may make it less appealing to bargain-hunting investors an important upcoming event which could provide further support for the stock is the proposed joint venture of the company’s east coast brick operations with those of its peer Boral Limited (ASX: BLD). A decision from the Australian Competition and Consumer Commission (ACCC) is expected just before Christmas.
Buy, Hold, or Sell?
The problem investors at this juncture face is that both stocks may struggle to enjoy positive momentum if indeed the housing cycle has peaked. Investors who are not concerned with the market’s sentiment will focus on the likelihood that Brickworks and CSR will report improved results for a number of periods yet as their businesses enter a sweet spot in the cycle for earnings.
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Motley Fool contributor Tim McArthur does not own shares in any of the companies mentioned in this article.