Investing in Real Estate with REITs

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How to Invest in the Booming Real Estate Market…

by David Fessler, Advisory Panelist, Investment U
Friday, January 23, 2008: Issue #922

Investing in the booming real estate market… ?

Lest you think I’ve gone totally off my rocker, let me explain. Last night, I received an interesting phone call from an old friend of mine. Jim’s in his forties, has a wife and a couple of kids, and lives in Orlando, Florida.

Six years ago, when I was vice-president of a telecommunications company, I hired Jim to run a new specialty business we were setting up in his neck of the woods. He knew absolutely nothing about our business, but he was a smart guy and I felt he was the best person for the job. It was the right decision, as Jim was a self-starter and turned out to be a great manager for our new operation.

When I left the business a few years later, I suggested he consider striking out on his own, as he would do a lot better for himself. He still owes me a nice dinner for that piece of advice.

Last year, his sales were over $2 million… this year he’ll likely do four times that. He has 10 full-time employees, and he’s going to be looking for more this year. He’s quickly become the No. 1 contractor in central Florida for the type of business he’s in.

Investing in Real Estate – Buying Unfinished Homes

Then he told me something that floored me: He’s taking some of his hard-earned profits, and has been investing them in Florida real estate. Unfinished single-family homes to be exact.

I couldn’t believe my ears. Naturally I asked him how he could possibly be making money buying real estate in one of the most over-built areas of the country. Here’s what he told me:

“It’s a simple business model: You buy unfinished houses in existing developments that have other finished homes. These are houses that are anywhere from 25% to 75% complete… hundreds of them. They’re eyesores to the people who live there and financial burdens to the banks that own them.

“Many of the contractors that were building these “spec” houses overextended themselves financially. So they simply packed up their tools and left the bank holding an unfinished house. Obviously, the banks are hot to unload these properties first. Terms are simple: 100% cash.

“I just paid $28,000 for a three-bedroom 3,000 sq. ft. house. I’ll probably have to dump another $25K – to $50K into it to finish it off. I then put it on the rental market. I usually sign a rental contract within a week.”

Jim said because of the high foreclosure rates in Florida, the rental market is doing very well. Also, a lot of people are migrating from other areas like Detroit, in hopes of finding work in the Orlando area.

He did a lot of figuring before he bought his first one, but he told me with the rates he’s charging, he’ll have his upfront money back in a year or two on most of the properties he buys. Then he’s the owner of a very nice house that he bought for anywhere from 25% to 50% of its actual value in today’s depressed market.

Interestingly, the average investor can do the same thing, but in a much easier fashion than my friend Jim’s doing.

Investing in Real Estate With REITs

There are a number of Real Estate Investment Trusts (REITs) that specialize in residential rental real estate investments.

And this week, these funds are starting to see some handsome moves to the plus side. For instance:

CMG Realty (CGMRX) is up nearly 10% in the past few trading days.
Third Avenue Real Estate Value (TAREX) is up almost 5%.
And Fidelity International Real Estate (FIREX) is 4.5% to the plus side.

What’s going on here? Simple. Three or four years ago, renters were busy buying houses they couldn’t afford. As a result, apartment owners couldn’t give away apartments, and vacancy rates skyrocketed. Then the housing market collapsed.

Add the havoc in the financial markets to the above mix and you have most REITs trading at a significant discount. Now the trend is reversing itself and it might just be the best time in a decade to own apartment and residential real estate REITs.

Others to consider long term are:

Avalon Bay Communities (NYSE: AVB) a well-run, low-leveraged operation in high barrier-to-entry markets.
Essex Property Trust (NYSE: ESS) also operating in high-barrier markets.
And Camden Property Trust (NYSE: CPT) specializing in large apartment complexes.

Watch these plays closely… when they trade sideways for a period of a few weeks or months, consider adding them to your “recovery portfolio.” Next year, you may be very happy you did.

Good Investing,

David Fessler

Today’s Investment U Crib Sheet

The market is starting to seriously look at REITs again. And not just as it did over the past few quarters – like a leper. Many REITs were affected by the credit crisis, but just as many were left unscathed. Unfortunately, stock prices across the board in REITs have been unfairly brutalized. But this is fortunate for investors seeking value.

Earlier this month, Advisory Panelist Robert Williams took a look at one REIT that’s been bucking the trend in residential real estate. It’s been working in the face of the credit crisis, and it’s been paying its dividends like clockwork. Read more about “Bulletproof REIT Bargains.”

Stay tuned on Monday for Alexander Green’s take on Real Estate and “The Myth of the Buyers Market.”

For more income ideas, Alex showed us that stock dividends aren’t the only way to go. There are bonds with positive equity exposure out there. Find out more on “Convertible Bonds.”