It's scary to step in front of the speeding train that is the housing market decline.
Investors in homebuilder stocks have had their heads handed to them as the Philadelphia housing sector index is off 20% this year. Bubble-bursting data such as inventory gluts, fewer mortgages and slower home sales make investing in the group a treacherous task.
Yet that's exactly what several shrewd investors have been doing lately.
Take Emaar Properties, a real estate company based in Dubai. On June 1, Emaar said it would acquire privately held John Laing Homes for $1.05 billion in cash. John Laing has significant exposure to the California market -- which is believed by many to be frothy. An Emaar spokesman said the company was interested in the deal for its long-term value and wasn't worried too much about different cycles in the business.
John Laing recorded $1.6 billion in revenue in 2005, giving the deal a price-to-sales valuation of 0.65. Margaret Whelan of UBS estimates that the P/E on the deal was 6.4. As you can see from the table below, public homebuilders are trading at significant discounts to the Emaar transaction.
In particular, stocks such as
, all of which have taken a tumble through the first half of the year, look inexpensive when compared with the Laing transaction.
There's also the case of General William Lyon, the chairman and CEO of William Lyon Homes (WLS) .
In March, Lyon made a tender offer for all the remaining shares (roughly 26%) that he or his trusts do not own. With the stock at $72 at the time, Lyon offered $93. He later raised the offer to $100 and finally to $109. Now the stock is north of $140, as its largest holder, Polygon Investment Partners, which has a 9.9% stake in the company, is clamoring that $109 isn't enough. Investors (or speculators) appear to be banking on General Lyon upping the ante, despite stating that $109 is his best offer.
The general, who is 82 years old, is already worth about $900 million based only on his Lyon Homes holdings. He obviously believes there is an opportunity to increase his wealth by paying a 51% premium to where the stock was when the first tender offer was announced.
But don't dismiss Lyon's offer as a speculative bid. Last September, he sold 117,000 shares in a forward contract. In essence, with the stock at its all-time high, General Lyon locked in his profit. After the shares had been cut in half, he attempted to buy the rest of the company. Think he knows value?
Other insiders, while not necessarily gaming the system like Lyon, are hanging on to their shares. For example, at
, only one insider has sold stock in the past six months -- a sale of fewer than 16,000 shares by a director. At beleaguered
Technical Olympic USA
, no insiders have sold since the beginning of the year, and 33,000 shares have been bought. Other homebuilders have seen insiders holding steadfast with no massive dumping of shares.
But it's not just insiders. Some money managers also are enamored of the current valuation of homebuilders. Tontine Management is one of them. The Greenwich, Conn.-based hedge fund company run by Jeffrey Gendell saw its Tontine Partners fund soar 197% in 2003 and 101% in 2004, according to
. Thomson reports that nearly 28% of its assets are invested in homebuilders.
The company's top 10 holdings include
, KB Home,
, Beazer Homes,
and Hovnanian Enterprises. Last month, Nicholas Yulico
reported that Gendell is an activist investor who persuaded Beazer's management to increase its share-repurchase program.
Homebuilders "have an amazing ability to make money in difficult periods," says one anonymous hedge fund manager who runs about $60 million. "I've never seen a group of stocks do poorly when they're trading at five or six times earnings while management is buying back stock," he added. The manager owns and cites
and KB Home as his favorites.
Wellington Management, a Boston-based investment company that manages $322 billion in assets, owns more than 5.6 million shares, or 8.5%, of Standard Pacific; 21 million shares, or 7%, of D.R. Horton; and 2 million shares, or 2%, of
. In the first quarter of the year, Wellington put more money into the sector, adding to its holdings in those stocks by 12%, 27% and 29%, respectively.
I don't blame investors who don't want any part of homebuilder stocks, especially with the avalanche of bad news in the housing market lately. However, it's important to discern between bad news and bad stocks. At less than five times earnings and 0.4 times sales, I believe investors who can handle some volatility and risk will be rewarded greatly. But don't just take my word for it -- listen to the Gendells and Lyons of the world.
In keeping with TSC's editorial policy, Lichtenfeld doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships.
Marc Lichtenfeld was previously an analyst at Avalon Research Group and The Weiss Group and a trader at Carlin Equities. He holds NASD 86,87, 7 and 63 licenses. His prior journalism experience includes being a reporter/anchor for On24 in San Francisco and a managing editor of InvestorsObserver, a personal finance Web site. He is a graduate of the State University of New York at Albany. He appreciates your feedback;
to send him an email.