News Analysis date published New: 
Monday, December 31, 2012 - 13:30
New Date created: 
Wednesday, January 23, 2013 - 10:39
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Monday, December 31, 2012 - 13:30

A Stock for One of the Most Dramatic Turnarounds In U.S. History... And It Yields 5.7%

Monday, December 31, 2012 - 1:30pm

Looking for a bargain?

No it's not a bridge. It's a carefully selected single-family home in Phoenix, or maybe even Atlanta, or another once hard-hit city in the United States.

Not interested in the hassle of buying a foreclosed home, fixing it up, and renting it out?

No problem. There are plenty of other ways to play the housing recovery, and the one I'm about to tell you about is currently yielding 5.7%.

But first, what recovery?

Signs of a housing turnaround are unmistakable. Prices for existing single-family homes are rising in virtually every region of the country. According to the Case-Shiller index -- a popular gauge for the U.S. housing market -- home prices continued to rise in the third-quarter of 2012.

Existing homes sales are robust. Total existing home sales, including single family, townhouses, condos and coops, hit a seasonally adjusted 4.79 million in October 2012. That's nearly 11% better than the 4.32 million sales in October 2011 and an improvement of nearly 7.2% over the 4.47 million recorded in July 2012, just four months earlier.

Builder sentiment is also at its highest level since 2006, when the U.S. housing market peaked. The National Association of Home Builders Market Index surveys builders on current single-family home sales and their estimates over the next six months. The index reached 46 in November, compared with 41 in October, and nearly three times the low of 17 in October 2011. In the past year, it has strengthened by 27 points.

That's the most dramatic increase in its history.

That's one reason the big players are starting to enter the market.

Typically, buying a second home, fixing it up, and renting it out has been something done by individuals, not large corporations. While real estate firms have focused on residential real estate, they typically specialized in apartment rentals in densely populated areas.

Not any longer. Major players, such as publically listed private equity firms with billions of dollars to invest, have entered the single-family residential market. Think Blackstone (NYSE: BX) and KKR & Co. (NYSE: KKR). I see this trend as their vote of confidence that housing has bottomed and is undervalued.

At least two key factors have contributed to the big boys moving in.

First, the glut of recent foreclosures -- 2.8 million in 2009 and in 2010 and 1.9 million in 2011 -- created an abundant supply of houses. Government holders, such as Fannie Mae and Freddie Mac, are carrying on bulk sales of these properties. More are in the pipeline, so large portfolios of single-family homes can be accumulated quickly and easily by institutional money.

Second, while prices are rising, nationwide they are still down more than 30% from their 2006 peak. Depending on the region and neighborhood, some price declines are far more drastic. In parts of California, for example, houses that were $250,000 at the height of the boom can now be bought for $100,000.

At these depressed prices, private equity players can still make a profit from renting -- after buying, fixing up, and hiring a property manager to look after maintenance and local operations. The average anticipated return on the rentals is 7% to 8% a year. The aim is to hold the properties for a number of years, then sell into strength, reaping a capital gain.

One of my favorites in this sector is KKR & Co., formerly known as Kohlberg Kravis Roberts & Co.

The New York-based private equity firm operates internationally with some 13 offices in Europe, Australia and Asia. It has completed more than $400 billion private equity transactions since inception, and as of Sept. 30, 2012, had $66.3 billion in assets under management.

In response to signs of a housing recovery, KKR is making a big push into real estate. As part of its increased emphasis on real estate investments, in 2011 the firm hired roughly 300 staff with specialized real estate expertise.

In early 2012, KKR announced its first foray into property development as it purchased land to develop with partners 330 apartments and 500 single-family, townhouse and duplex homes in Williston, North Dakota. Williston is strategically located in the prolific oil and gas Bakken shale formation. The city expects 20,000 wells will be drilled in the next 10 years, adding between 10,000 and 20,000 jobs created. At present, roughly 15,000 oil and gas workers are in temporary housing.

The company's dividend payments, which vary with earnings each quarter, totaled 84 cents per unit in 2012. That gives the partnership a yield of 5.7% at today's price ($0.84/$14.70).

That's not to say this stock is without risk. While KKR is expanding its presence in real estate and single-family housing, the sector still comprises only a small part of its portfolio. While KKR's revenues have expanded, investment income and earnings in the private equity sector can be volatile.

Action to Take --> That said, KKR has continued to raise distributions since going public in 2009, even though 2011 was a weak year. Earnings in 2012 should be strong and a distribution increase could be announced in the first-quarter of 2013, which may be a catalyst for the share price to move higher.

The shares are suitable if you're looking for a high-yield way to invest in the U.S housing recovery, but if you can also accept the volatility of the company's earnings stream.

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Carla Pasternak does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.