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Bricks and Mortar: Four Real Estate Plays

Brookfield and the Global REIT ETF are strong names, while Ryland and Trump face headwinds.

Editor's note: Today is the first installment of a new series of columns by real estate reporter Nicholas Yulico called "Bricks and Mortar" where Nicholas will generate real-estate-related stock ideas for readers.

Welcome to Bricks and Mortar. Today, I'm going to take a close look at four real estate plays and share my thoughts on the prospects for the companies.

But before I dive into the first ideas, let me make clear that this is not intended to be a trading portfolio but rather is intended to give investors a head start on their homework by providing ideas of where opportunity lies in the real estate sector and where pitfalls may loom.

Beyond the typical real estate plays such as homebuilders or real estate investment trusts, I'll also look at gaming, lodging, lenders, real estate operating companies and hidden real estate stories (such as retail owners).

If I believe a stock has strong prospects, I'll "own" that property, and when I see stocks that could face trouble, I'll "flag" them. I'll provide an in-depth look at each stock we own or flag.

Today I'm going to kick things off by tackling some REIT, gaming and homebuilder names.

REITs, or real estate investment trusts, have had a big run over the past few years, but investors don't need to cash in their chips. I believe it's foolish to follow the drastically bearish sentiment about the sector coming mostly from macro-focused investors who are missing the story with REITs.

There has been a tremendous repricing of commercial real estate in recent years, as evidenced by the numerous mergers and private equity deals in the sector. The sector offers a dividend yield plus capital gains.

Gaming is a sector that I'm also attracted to because of the possibility for outsized returns offered by the various growth and value stocks in the sector. Also, private equity's interest in the sector should remain strong in 2007.

Though the practice isn't widespread, there is a growing tendency to combine REITs and casino owners in mutual funds or hedge funds. For example, respected fund manager Ken Heebner of the


CGM Realty fund combines gaming and real estate plays.

As for the homebuilders, I'm taking a more bearish stance on the sector, because I expect fundamentals to remain uglier than many investors expect. Today, I'll flag one large builder.

Here, then, are my first four plays:

Brookfield Properties


, the

StreetTracks Dow Jones Wilshire International Real Estate ETF






Trump Entertainment



Brookfield Properties (Own)

As I highlighted in a

recent story, Brookfield has about half of its national office building portfolio in New York City, where downtown and midtown Manhattan office rents are surging; this boosts the company's valuation.

We used the latest cap rate data from Cushman & Wakefield/Real Capital Analytics to estimate that the company's portfolio deserves a 5% average cap rate on in-place rents. This gets us to a net asset value of about $42 to $43.

The integration of the recently acquired Trizec Properties portfolio offers significant earnings growth from rent rollovers.

Canada-based Brookfield also will benefit from two fund-flow issues:

Equity Office


shareholders will recycle money back into other office real estate owners after the REIT goes private, and there will be an increased amount of money from pension funds going into non-U.S. real estate stocks. At around $43, the stock is reasonably priced and offers a decent 1.8% dividend yield.

Global Real Estate ETF (Own)

International real estate has lagged the huge returns from U.S. REITs in the past few years, but international does remain an

attractive diversification tool that has performed well.

This ETF is one of the easiest ways for a retail investor to play the international market.

About 60% of the ETF's holdings are in Australia, U.K. and Japan -- which are all experiencing strong commercial property fundamentals. The two largest stocks are global mall developer Westfield Group Australia and the Japan office and housing developer Mitsui Fudosan.

The fund tracks the Dow Jones Wilshire Ex-U.S. Real Estate Securities Index, which has a five-year average annual return of 29%.

The ETF does not offer a dividend yield. At $64, it trades at 23 times forward earnings estimates -- roughly near U.S. REITs.

Ryland (Flag)

Ryland reports earnings Wednesday after the market closes. The stock, at around $56, trades at the highest price-to-book ratio of the large homebuilders, at 1.62 times, compared with

Toll Brothers


at 1.46 and



at 1.43.

The belief among investors seems to be that Ryland's strategy of not cutting prices to move homes (in contrast to pretty much every other builder) means the company won't record many, if any, land impairments.

Ryland is one of the only builders not to announce any sort of land impairment charges, while those charges are

hurting other builders' earnings as they write down the value of the land on projects that are no longer profitable.

But Ryland's accountants may eventually force the company to take writedowns on the basis of the new market pricing for homes (and not Ryland's pricing).

Estimates from Majestic Research, an independent firm, say that Ryland's standing inventory of homes increased 63% from September to November. This compares with a 5% increased aggregate inventory for the rest of the major public homebuilders.

"If those numbers are right, how can there not be a writedown coming

at Ryland?" says John Tomlinson, an analyst with Majestic.

Trump Entertainment (Flag)

Trump's exposure to the Atlantic City, N.J., market has it facing a few major negatives right now.

The city is

eyeing a smoking ban, which will come to a vote on Wednesday. The ban would take effect in mid-April but may be held up in legal limbo.

On Tuesday, several New Jersey newspapers reported that a compromise bill is floating around that would still allow smoking in 25% of the casinos. Trump's stock recently was up 92 cents, or 5.6%, to $17.50 on the news.

Joe Weinert, a consultant at the gaming consultancy firm Spectrum Gaming, says the compromise is likely to pass Wednesday. The matter could, however, eventually end up back in the state legislature's hands if it's decided that the compromise is actually worse for employees (since it exposes some to more smoke than others).

But even if the compromise passes, there are other negative issues looming at Trump, which is why I'm flagging the stock. The New Jersey state legislature is eyeing the introduction of slots to racetracks in the northern part of the state, and that is bad news for Atlantic City.

The recent introduction of slots to nearby Pennsylvania and New York will also hurt Atlantic City operators over the next year.

Trump's casinos sit on prime real estate in the city. But from a trading perspective, negative news will hover over the stock in the next few months, and the company could miss revenue targets.

What's Ahead

Hotel owners and managers will also be a key piece of the portfolio. In coming weeks, I'll highlight a few good stocks to own in this sector.

And of course, I'll track the news that affects the Bricks and Mortar names, and how the stocks have performed. I'll also keep a watch list of names that could present opportunity in the future to help build a better real estate portfolio.