Should you buy FTSE 100 firm Barratt Developments’ 8% dividend yield like Neil Woodford?

The FTSE 100’s Barratt Developments (LSE: BDEV) is one of the top five holdings in Neil Woodford’s Income Focus Fund. It sits alongside other house-building firms, and other UK-facing cyclical businesses, that he has said offer attractive valuations, and which he reckons have better forward prospects than the stock market is giving them credit for.

Based on the numbers alone Barratt certainly looks cheap. The recent share price of 512p throws up a forward price-to-earnings ratio of around 7.4 and the forward dividend yield is a little below nine. Meanwhile, today’s AGM trading statement is reassuring and shouts about a “strong start to the new financial year.”

Strong trading

Chief Executive David Thomas said in the update the firm is seeing “a good sales rate, healthy forward order book and customer demand supported by an attractive lending environment.” In the first 15 weeks of the trading year, the company recorded net private reservations per active outlet per average week at 0.72, which is just below the 0.74 seen during the equivalent period last year. 53 new developments were started in the period, which compares to 62 last year, and overall the firm operated from 365 outlets compared to 371 last year.

Trading is stronger than last year with total forward sales up 12.4% year-on-year at £3,146.5m compared to £2,800.5m in the equivalent period last year. That forward revenue means that sales of 12,903 units have been agreed, up from 12,277 last year. Which is a heck of a lot of dwellings, and there’s no sign of contraction in the figures to worry about.

Meanwhile, Barratt is rolling out new product ranges aimed at boosting profit margins and continues to acquire new land for future developments. The nation’s largest house-building company is trading at full steam and looks set to keep up its ordinary and special dividend payments for the foreseeable future. So, maybe we should buy shares in the FTSE 100 giant and collect that chunky dividend payment, just like Neil Woodford.

But there are risks

I’m wary of that idea because I think the firm’s valuation is low for a reason. To me, house-building companies are among the purest cyclical outfits you can invest in, along with the likes of miners and banks. There’s no sign that Barratt’s earnings are set to decline, but I think the stock market ‘knows’ there is a good chance that earnings will fall in the future – it just doesn’t know when that will be. In the meantime, it ‘knows’ that the firm’s earnings have been high for a while, so it is keeping the valuation low in anticipation of the next earnings plunge.

I don’t think we’ll see much of a valuation up-rating soon. That’s fine if we just collect the dividend. But I think doing that is risky. If the bottom does fall out of the housing market, the share price could plummet 50% or more before you have much of a chance to react and to sell your shares. An event like that could wipe out years’ worth of your dividend gains. I think the ongoing risk of that potential scenario playing out is too great, so I’m looking for dividend investments elsewhere. However, I could be wrong, but that’s a chance I’ll have to take.

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Kevin Godbold has no position in any of the shares mentioned. The Motley Fool UK has no position in any of the shares mentioned. 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.

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