Property investing has the potential to enable individuals to build significant long-term wealth. But, as with all investments, the secret to big success is buying cheap and selling high.
Many buy-to-let investors have done well over the last 20-30 years, during which time UK house prices have risen massively. But I think this opportunity may have passed, at least for now.
According to mortgage lender Nationwide, house prices in London and the South East are now falling from record highs. Buy-to-let landlords are also facing a cocktail of rising costs, including changes to mortgage tax relief and new energy efficiency requirements. I think there are better opportunities elsewhere.
The ultimate turnaround? If you’re attracted by the wealth-building potential of property investment, I think FTSE 100 engineering group Melrose Industries (LSE: MRO) is worth considering.
Melrose buys troubled industrial groups, turns them around, and sells them on. Its management has an impressive track record. According to the firm, £1 invested in 2005 would have been worth £18 by March 2018.
Last year, the group made headlines with a hostile takeover of aerospace and automotive group GKN (LON:GKN). It’s too soon to say whether Melrose management will be able to repeat previous successes. But progress so far seems positive. The group’s 2018 results were said to be ahead of expectations and showed a reduction in leverage along with promising signs of cash generation.
Profits could soar Melrose is targeting a medium-term operating profit margin of 11% for the GKN business. The equivalent figure in 2017, prior to the group’s takeover, was just 6.4%.
Melrose says that GKN suffered from problems including poor integration of acquisitions, a complicated management structure and a lack of clear strategy and discipline on spending. By fixing such issues and resolving loss-making contracts, the firm believes it can hit these profit targets with only minimal sales growth.
Melrose stock looks fairly priced to me, on 14 times 2019 forecast profits, and with a 2.5% dividend yield. I think the downside risk is limited at this level. I’d rate the shares as a buy at under 200p.
A better way to play property? Another way to play the UK property and construction market is by investing in firms which provide the tools and equipment needed for building. One of my top picks in this sector is equipment hire firm VP (LSE: VP).
In a trading update today, the company said that its main UK business was performing well, with “stable demand” from infrastructure, construction and housebuilding customers. This seems to suggest the UK economy is in reasonable health, despite Brexit concerns.
The firm also owns an international business, which operates in the oil and gas industry, and owns a test and measurement business based in Australia. Although smaller, I suppose these operations could help to offset the cyclical risk of a UK downturn.
Happily, there’s no sign of a slowdown yet. Analysts’ forecasts indicate that the group’s earnings are expected to rise by 14% to 93.5p per share this year. This puts VP on a 2019 forecast price/earnings ratio of 10.5, with a dividend yield of 3.0%.
This valuation may seem modest, but I’m concerned we may be at a late stage in the economic cycle. On that basis, I’d rate the shares as a hold at current levels.
Roland Head has no position in any of the shares mentioned. The Motley Fool UK owns shares of Melrose. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.
Motley Fool UK 2019