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Battle for EOP Boosts Real Estate Funds

Kevin Baker

You never really know what real estate is worth until you sell it. To get top dollar, the best-case scenario is to have at least two potential buyers with deep pockets compete in a bidding war over the property.

That is what happened this week for Equity Office Properties Trust (EOP), the largest publicly traded office-property real estate investment trust, or REIT.

The Blackstone Group won the bidding war against Vornado Realty Trust (VNO), valuing Equity Office Properties at $39 billion. From EOP's perspective, the company is getting full value of its real estate holdings for its shareholders, while Blackstone sees a higher potential value. When real estate investors compared the valuation placed on EOP with other REITs, the entire sector looked undervalued and the rally gained traction.

For the five trading days ended Feb. 9, the real estate funds that TheStreet.com Ratings track gained an average of 2.7%. The Dow Jones U.S. Real Estate Index added 2.89%.

The open-end fund (REPSX)ProFunds Real Estate UltraSector ProFund (REPSX), tracking 150% of the index return, rose 4.26%. EOP is listed as the fund's second-largest holding at 3.2% of assets, but that position inched up just 0.53% while the losing bidder, Vornado, jumped 7.09%. Other winning positions included Mills Corp (MLS) up 19.06%; ProLogis (PLD), up 10.08%; KKR Financial (KFN), up 9.57%; and Felcor Lodging (FCH), up 7.09%.

By taking on even more leverage and risk, the Ultra Real Estate ProShares (URE), a brand-new ETF that targets 200% of the index's performance, succeeded by returning 5.95%.

Not to be outdone, the LMP Real Estate Income Fund (RIT), a closed-end fund, returned 8.86% over the same period.

Playing the role of bear to its bullish brother is the UltraShort Real Estate ProShares (SRS), an ETF that targets a negative 200% return on the Dow Jones U.S. Real Estate Index. In other words, it is designed to increase twice as much as the index decreases. Because the index increased this week, this ETF sank 5.39%.

The other real estate fund slipping just below the break-even line this week is ING Clarion Real Estate Income Fund (IIA). One of this fund's smaller holdings, Mack-Cali Realty Corp. (CLI), announced details on its sale of $252 million in additional equity shares to help pay down debt, and slid 1.57%. Buying more income-producing properties would be a more bullish use of new cash.

The presence of leveraged buyout firms prowling the REITs for bargains is a good sign that the slump in this market may have run its course. From year-end 2005 to year-end 2006, existing home sales and new-home sales are off 7.9% and 11.0%, respectively. But the difference is that new-home sales bottomed in July of 2006 and are rebounding, whereas existing home sales are still in the doldrums.

The bright spot in the real estate market is on the commercial side. With high occupancy rates, construction spending on commercial properties continues at a strong pace. This may hold the interest of other leveraged buyout firms and may add bidders to that corner of the real estate market.