London property bubble

The London property market has benefited from a number of factors unique to the capital. Houses and flats are highly prized by overseas investors who view it as a safe place to park their cash, and are willing to pay deposits well in advance of completion. UK buy-to-let investors have also been attracted by the ability to increase rents ahead of inflation every year. The high price of land also reduces competition for the big housebuilders.

Berkeley shares have soared in value by more than four times since their lows of 2009. However, it looks like the best returns are now well behind them after the shares peaked at £35 in August this year and have since fallen more than 10pc. Profit margins are coming under pressure as shortages in skilled labour cause wages among bricklayers and electricians to rise ahead of inflation. The cost of building materials is also beginning to rise steadily.

Steady start

The latest trading update for the four months to the end of August showed sales were steady and the level of cash received in advance of sales had also been maintained.

First-half results due on Friday should reflect a slowdown in activity, and revenue and profits are expected to fall 14pc in the year to the end of April.

Tough second half

The second half could face weaker demand as buy-to-let buyers are put off. Overseas buyers have been responsible for about half of new-build purchases in central London and are facing a rising tax burden. From April this year they have to pay 28pc on any gains, and have now been hit with an additional 3pc stamp duty on purchases.

Risky income

The shares still offer attractive income levels, having reached a first target of paying out 434p by September 2015. The next target is another 433p paid out in dividends by September 2018, followed by 433p to 2021, or a yield of about 5pc.

The risk is that, in chasing the income, investors could face a sharp loss of their capital. Berkeley shares are exposed to rising interest rates, and, with the US Federal Reserve expected to increase in December, the shares will be under pressure.

Looking at Berkeley’s share price today, it seems to price in the current high level of profits, which have been achieved on record house prices, and much of the return of capital already.

Questor recommended buying Berkeley shares at 801p back in 2010.

We think it would be prudent to bank some profits.