Buffett’s Continued Bet On Real Estate

By Aaron Levitt | June 22, 2012 AAA

When it comes to value investing, the "Oracle of Omaha," Warren Buffett, is often at the top of the guru list. Guiding former textile manufacturer Berkshire Hathaway (NYSE:BRK.A, BRK.B) into an investment powerhouse, Buffett is widely considered the most successful investor of the 20th century, as well as one of the richest. So when the bespectacled sage speaks, both institutional and retail investors often take notice. His latest bet could be seen as an endorsement of a sector that continues to struggle in the new normal. For investors with long-term timelines, the housing sector could be one of the deepest values, yet.

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A Big Bet on Housing
Through his shareholder letters and recent interviews over the last year, Warren Buffett has been saying that the housing market is bound to turn higher and he has continued to put his money where his mouth is. Since the real estate and credit crash, Berkshire Hathaway has added exposure to the sector by buying a construction aggregate maker, a real estate brokerage and partnering with fellow value investors at Leucadia National (NYSE:LUK), in order to bet on commercial property. Overall, the Oracle's stance on real estate could be summed up from a recent interview on CNBC, in which Buffett said, "If I had a way of buying a couple hundred thousand single family homes and had a way to manage them ... I would load up on them."

Buffett has continued that bullish stance on housing and real estate with his latest move. Berkshire recently made a $3.85 billion bid for the mortgage business and loan portfolio from bankrupt Residential Capital LLC (ResCap), a subsidiary of Ally Financial. Berkshire also added that it would be willing to pay $1.45 billion for an additional Ally loan portfolio, outside the bankruptcy plan. Berkshire Hathaway is already a ResCap bondholder and will be competing with private equity group Fortress (NYSE:FIG) for the mortgage operations.

While Buffett has admitted he has been early on the real estate rebound, he anticipates it could be one of the best deals going forward, citing the fact that supply has dropped after builders retreated following the collapse. Data has shown that U.S. housing starts have dropped by about two-thirds since 2006. Additionally, national average property prices are more than 35% below their peaks.

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Following Buffett's Lead
Given Buffett's bullishness on real estate, long-termed investors may want to follow the guru's lead and take a bet on housing and commercial real estate. A broad fund like the iShares Cohen & Steers Realty Majors (ARCA:ICF) can provide access to the theme of rebounding real estate. There are other ways to profit like Buffett, here are some picks:

Much of Warren Buffett's enthusiasm for housing stems from portfolios of mortgage loans. These bonds are essentially asset-backed securities that are secured by a mortgage or collection of mortgages. The 800 pound gorilla in the sector is the iShares Barclays MBS Bond (ARCA:MBB). The ETF tracks around 328 different Freddie, Fannie and Ginnie Mae MBS bonds and has roughly $5.2 billion in assets. The fund has very little exposure to adjustable-rate mortgage (ARM) style mortgages and has a 12-month yield of about 2.96%. Similarly, the Vanguard Mortgage-Backed ETF (Nasdaq:VMBS) features less interest rate risk than the iShares fund, but yields less at 1.42%.

For investors looking to follow Buffett's lead into non-agency mortgage backed securities, MREITs Chimera (NYSE:CIM) and INVESCO Mortgage Capital (NYSE:IVR) could be interesting plays. The ResCap portfolio that Berkshire is trying to buy is similar in structure to the non-agency backed subprime and alternative mortgages held by the MREITs. The firms yield a monster 15.1 and 13.8%, respectively.

Finally, the biggest, and perhaps deepest, value in the sector could be the home builders themselves. All are still trading for a fraction of what they were during the boom years. The SPDR S&P Homebuilders (ARCA:XHB) is still the easiest way to gain exposure those firms.

The Bottom Line
When it comes to finding value, Warren Buffett is generally right on the money. His latest big value bet is on the housing and real estate sector. For retail investors, the Oracle's bullish stance on housing could be a great long-term buy. The previous picks, along with PowerShares Dynamic Building & Construction ETF (ARCA:PKB), make ideal choices to play along with Buffett.

At the time of writing, Aaron Levitt did not own shares in any of the companies mentioned in this article.

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