Gendell Digs In With Homebuilders

The fund manager has made big bets on the sector, and now is eyeing an acquisition.
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Jeffrey Gendell, manager of hedge fund Tontine Partners, is considered one of the smartest hedge fund investors around. But the recent drubbing of the homebuilder stocks he owns must be driving him nuts.

Or maybe not.

Gendell is known to be a contrarian, long-term value investor. He's also patient. This strategy netted him estimated income of $350 million last year, according to the latest issue of

Trader Monthly

magazine, making him the 20th-best-paid trader on the list.

On first glance, Gendell's earnings appear puzzling, because his multi-billion-dollar hedge fund contains large positions in homebuilding stocks like

Centex

(CTX)

,

KB Home

(KBH) - Get Report

,

Ryland

(RYL)

and

Pulte

(PHM) - Get Report

, which have been horrible performers over the past year and a half.

While details about Tontine's performance in 2006 and so far this year could not be located, Gendell has posted stellar returns in the past. Tontine, started by Gendell in 1997, has gained more than 100% in both 2003 and 2005, according to

Stockpickr.com. If the

Trader Monthly

numbers about Gendell's income are correct, then Tontine probably had a pretty good year.

Helping the fund's recent performance are home-run trades Gendell placed on

U.S. Steel

(X) - Get Report

and other steel stocks.

Now, Gendell surely is looking to prove wrong the doubters on homebuilders, just as he did with steel stocks. In fact, the investor appears to be doubling down on the sector.

One source close to Tontine says the firm is eyeing the purchase of a public or private homebuilder or set of land assets in the $1 billion range. A deal could close over the next month, says the source, who wouldn't provide further details.

Gendell, reached by phone at his office in Greenwich, Conn., declined to comment for this story.

Building Bets

Last June, articles circulated in the press that the "smart money" was betting the rally was over for steel companies. As evidence, a

Bloomberg

article at the time noted that short interest for companies in the Standard & Poor's steel index had climbed 20% from February to May.

Gendell, who owns numerous steel stocks, was listed in the article as the largest shareholder at that time of U.S. Steel, with a 7.8% stake. At the time, the stock was trading around $63.19. On Friday, shares closed at $105.57.

If Gendell had listened to all the doubters last year -- who said that steel demand from China was slowing -- he would have left a ton of money on the table. The reason he rakes in hundreds of millions a year is he places huge bets against the crowd and waits patiently.

The analogy this time around is that homebuilder bears say housing is facing several issues amid the ongoing real estate downturn, raging from too much inventory to tightened mortgage lending standards.

It takes a little digging through

Securities and Exchange Commission

filings to find out that Gendell started placing his contrarian bets on the builder stocks back in 2000, when the rest of the world cared more about the technology sector. Since then, many of those builder stocks are up about 400%, even if recent performance has stunk.

Of Tontine's top 20 holdings at the end of 2006, four are homebuilders, according to his latest 13-F filing with the SEC. Its largest builder position at the end of last year was 5.74 million shares of Centex, valued at $243.7 million.

The fund also owned substantial stakes in KB Home ($236 million), Ryland ($184.9 million) and Pulte ($148.9 million) at year-end.

Year to date, these four stocks are down about 20%, on average.

Still, Gendell had sold off some of his positions before year's end. In the fourth quarter, Gendell sold 22% of his Pulte shares, 17% of his KB Home shares, and 12% of his Centex position, according to filings. He sold no Ryland stock.

Throughout the recent beating of the builder stocks, Gendell has hoped the builder management teams would continue to aggressively buy back stock with the cash flow from home sales, says a person familiar with Tontine.

Company buybacks help a stock from free falling in value. They also allow hedge funds to trim their positions without drastically affecting the prices of the holdings.

However, the buyback story went into a tailspin in mid 2006. Companies stopped buying inventories and cash began to pile up. Rather than buy back shares, builders are using the bulk of their free cash flow to pay down debt to preserve their credit ratings (with the exception of

NVR

(NVR) - Get Report

).

There are numerous questions surrounding the homebuilder stocks, including whether Gendell will continue sticking with his bets in the sector. If indeed his hedge fund is involved in a builder buyout over the coming month, it will surely turn some heads in the market. Then again, so would continued selling of the builder stocks, as Gendell did in the fourth quarter.