Barron's interview of Sam Lieber

Sam Lieber of Alpine Woods Capital Investors gives his impressions of the housing market as well as some real estate picks. Very nice Barron's interview.

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Bubble? What Bubble?
By CHRISTOPHER C. WILLIAMS
FROM HIS PERCH AS PRESIDENT of Purchase, N.Y.- based Alpine Woods Capital Investors, Samuel Lieber sees slivers of sunshine stealing through the gloom enveloping the U.S. housing market.
Speculative buying has driven housing prices to nosebleed levels -- giving rise to fears that there's a bubble and that rising interest rates will be the pin that makes it explode.
But housing's fundamentals remain strong, argues Lieber, who directly manages or helps oversee some $3 billion of assets through nine mutual funds, including chart-topping Alpine U.S. Real Estate Equity (ticker: EUEYX), Alpine International Real Estate (EGLRX) and Alpine Realty Income & Growth (AIGYX). The portfolio manager says that he won't retract his horns unless the job market tanks, and he sees little chance of that happening soon.
Based on his record, his opinion is worth heeding.
Eschewing pricey real-estate investment trusts for the most part, Lieber has guided the U.S. fund to an annualized 29% return in the past five years, through April 4, beating 99% of his rivals, according to Morningstar. His International offering was up 26% over five years, while Realty Income, managed by Robert Gadsden, is up 23% for that span.
Samuel Lieber
Late last month, Lieber visited Barron's offices in New York, where condo prices are flattening. Drawing on 25 years of real-estate experience, including stints as a broker and urban planner, he discussed many topics, including the U.S. property market, what he views as blossoming investment opportunities in Hong Kong, Germany and Sweden, and some stocks to avoid.
Barron's: Thirty-year mortgages are still pretty low, interest rates aren't spiking; the economy is still relatively robust, and the job market remains solid. Yet we have this doom and gloom over housing. Is it that folks are just tired of a good thing after years of crazy growth?
Lieber: We've seen a number of [housing] cycles globally, and this one is not that different. We've just gone through a 14-year up cycle for housing, and prices were up because of supply-demand considerations. But, fundamentally, we'll get to a point where, all of a sudden, the market will say: "The Fed is basically done. They will go from a tightening mode to neutral." When that happens, the bond market will do well, and housing will start to take off again. That is going to happen, in all likelihood, within the next nine months.
How many more rate hikes will the Fed do?
At most, we're going to get two more moves. So rates get up to the 6 3/4% to 7% range on mortgages and, as a result, we think the market stabilizes. We do not expect to see a robust recovery, as we saw in 1995. But home-building stocks are trading at just 6 1/4; times earnings multiples, in spite of having had 35% annualized compounded earnings growth over the past seven years. We're going to go through a transition in which the market will look forward to sustainable earnings growth in the mid-teens over the next three to five years. The stocks will be revalued higher by 50% to 100%, in terms of their multiples, in 18 to 20 months.
So there's no housing bubble bursting?
We don't see a bubble. Historically, home prices just don't go down nationwide unless we are in a significant recession. The last time home prices fell nationwide was in 1990. It's employment that really counts. The underlying fundamentals of real estate are still very positive. Job creation and household formation drive housing.
How high can rates go before you'd consider them dangerous for housing?
An 8% mortgage rate would be a problem. My guess is that the Fed will stop short of crippling the housing market. They simply want to slow it down.
What does all this mean for the home-building stocks?
The next six months are going to be a little volatile, because we don't know exactly how they are going to come through this cycle. But after that, I expect the stocks to be up 20% to 30% from here by year end. Going into the second quarter of 2007, it is quite possible we are going to see these stocks trading at significantly higher multiples. My worst-case scenario is that they are basically dead money, that the earnings growth doesn't come through.
What is the hot trend in real-estate investing now?
Interest in international property. Many investors are a little cautious about putting more money into real estate and trying to get to their target allocation because of the high cost of property in the U.S. So, many are looking abroad. Not only can they get added diversification, but many of the real-estate markets abroad are enjoying prices and rents well below historical highs.
Since 2003, many foreign economies have been strengthening. From 1997 through '02, for example, home and office prices in Hong Kong were declining. They finally started to improve a little in 2003, and 2005 was a very good year. There are opportunities in Europe, as companies are restructuring, improving operating fundamentals across the board as vacancy rates are coming down. Vacancy rates in Paris are 5% now. Add to that the potential that the dollar will weaken. The currency winds could be at your back, too.
Retail is probably still a very strong place to be internationally, irrespective of country, as long as the economies continue to grow and add jobs. We've made tremendous money in Europe and in Asia on residential builders. We're seeing a gradual strengthening in the office markets.
The other area abroad that has lagged the U.S. is hotels. Hotels are going to be a very interesting play, particularly in Asia, but also, to a lesser degree, in Europe, over the next couple of years. In fact, hotels are still a great place to be in the U.S. They are actually among the cheapest sectors in commercial real estate right now.
So, what's next?
More money managers want to participate in the international property. So, over the next three years, we expect to see an initial-public-offering boom the likes of which transformed the U.S. REIT industry between 1992 and 1995. Everybody is racing around, trying to find somebody who has experience in the international area.
And since you run one of the oldest international funds around, you see yourself in the catbird seat here.
Yes, of course, but it is a brave new world. There will be great opportunities, but there will also be heightened risks.
OK, let's get to specifics about stocks you like and don't like.
Well, again, one has to appreciate that we have three distinct mutual funds, and they are really run in different ways. Let's start with U.S. Real Estate Equity, which could be characterized as an opportunistic value-oriented fund, focused on long-term capital appreciation. There are times when this fund has been 50% in real-estate investment trusts. But our REIT exposure is only about 12% now.
That sounds very low.
It is historically low. But REITs are trading at 18 to 24 times Ebitda [earnings before interest, taxes, depreciation and amortization]; they're priced to perfection. We have over 50% in home builders, where there is an opportunistic purchase opportunity available. And we have over 35% in hotels, where we perceive a once-in-a-decade supply-demand imbalance.
What's your REIT outlook?
REITs will be flat at best over the next 12 to 15 months. Total return over two years could be in the single-digits.
U.S. Real Estate Equity has about $472 million in assets and your top five holdings are Lennar [ticker: LEN], Hilton Hotels [HLT], Starwood Hotels & Resorts [HOT], Hovnanian Enterprises [HOV] and Standard Pacific [SPF].
Lennar is a great balance-sheet company that happens to be in the home-building business. It's also a great buyer of land. This company is effectively trading at about 6 1/2 times earnings for this year, and those earnings are pretty much in the bag in terms of new orders already achieved. We think the earnings will grow moderately next year, about 10%.
Is the valuation still reasonable? The stock is at 62 now.
This stock has always been one of the group's moderate performers, in part because they've allowed the balance sheet to strengthen; they didn't leverage the company. So the stock didn't get as high as some other companies on the upside. It's also why, on the downside, it hasn't gotten as low as others have. It's a much less volatile stock. We want to own companies that get acquired. We also want to own the companies that can grow through consolidation; that's where Lennar fits in. I would be surprised if this stock in 18 months is not somewhere between 75 and 80 bucks. I think that's conservative.
Let's talk about Toll Brothers, a company Barron's has written about favorably.
Toll [TOL] has a unique market niche: The average price of its homes is around $700,000. Plus, they've also been very active land developers. Like Lennar, they have fabulous land positions. Toll has developed a strong brand reputation. That in itself is valuable to any company that wants to get into the business. Eventually, Bob Toll will sell the company. I'm not suggesting that it will happen this year, but over the next few years, it is quite possible.
Table: Lieber's Picks
Who might be a likely buyer?
Lennar, in part because of its balance-sheet strength but also because there is a natural fit in terms of the land position. Lennar does a few homes at the price levels at which Toll operates.
What would be a reasonable price?
Lennar wouldn't pay a big premium. Right now, they would use their shares, but their shares are trading at just 6 1/2 times earnings.
As we speak, Toll is at 35, well off its 52-week high. Why wouldn't now be a good time to buy it?
Because Toll wouldn't sell. There has to be a friendly deal. It is too difficult to integrate these sorts of companies without a friendly deal.
Are you buying Toll stock now?
This is one you should load up on. We've got almost a 5% position. We've been buying selectively in the downturn, yeah. We were active buyers in October; the group bottomed on Oct. 27. We bought more shares this year, especially when we were getting into mid-March, when the shares were getting very depressed.
Absent an acquisition, if an investor gets in at 35, what's the upside?
You could easily see the stock at $50 over 18 months to 24 months, when I think the group again will be trading at a premium.
You have a number of hotels in your top holdings. Why do you like the group?
Hilton and Starwood are well-positioned for the long term. However, short term, we have been very keen on DiamondRock Hospitality [DRH], a hotel REIT. It was partially created by entrepreneurs from Marriott, who are also still tied into Marriott. They have historically bought very nice hotels that have had problems. Then, they'd reposition them or plug them into the Marriott system. They buy the hotels, and Marriott gets long-term franchise agreements.
What is particularly appealing here is that this is a company that trades at a dividend yield of about 5 1/2%. And we think they are going to be in a position to start growing that dividend over the next six to nine months. They've had very strong double-digit revenue growth over the past year in their portfolio, and we think that is going to continue this year.
The hotel industry is benefiting from a supply-demand imbalance. Effectively, from the onset of the 2001 recession through 9/11 through the effect of SARS [a respiratory ailment prevalent in Asia a few years ago], no one wanted to travel.
We've seen the impact on airlines. But it also hurt the hotel business, which fell from a record year in 2000 to a very, very difficult recession level in 2003. As a result, no one built new hotels. Growth in the number of hotel rooms coming online each year went from 3.5% in 2000 to less than 1% in 2004. It will gradually start to ramp up and approach the 2 12% that's been the U.S. average since 1945.
Diamond, at 13.58, is near a 52-week high. How much upside do you see?
A lot of these companies trade on Ebitda multiples. These guys should move from the 12-times range up toward around 14. We could very well see this stock trade roughly up in the $16 range.
In 12 to 18 months?
Or even a little more. They also will be increasing the dividend. This stock could really put up very significant total returns.
Any other picks, Sam?
Orient-Express Hotel [OEH]. This stock is trading around 38, near its high.
And its forward P/E is around 31.
Yeah, the price-earnings ratio is high, but the price-to-Ebitda is around 14 times -- the company's historical average. The whole hotel group is undervalued. And it's easier to generate growth with individual acquisitions for smaller companies, such as DiamondRock and Orient. The unique aspect of Orient-Express is that 70% of its income comes from abroad. Some of its income is depressed, because they have assets in New Orleans. They have a big hotel there.
Are you putting new money in this one?
I have not paid this price. But it's a great long-term story. I think there is a potential to see this over time in the high-40s-to-50 range. It's not inconceivable that this company could trade over 50 within 18 months, especially if someone takes them out. If they sell out, it'd be a number with a six in front of it.
What's the likelihood of that?
You should call Prince Alwaleed [owner of the George V in Paris, among other posh hotels]. He's the most likely sort of buyer for truly high-end, unique assets like this company.
Hilton is in all three of your major real-estate funds' portfolios. Why?
Management is taking their company in the direction of Marriott's business model, being a brand and distribution company. They get 30% of business overseas. Hilton could easily get to the mid-30s [from the mid-20s now] in the next 18 months.
What do you like overseas?
The largest holding in the international fund is a Swedish company called JM. It trades in its local market. JM is around 526 Swedish krona [about $69]. We started buying this one back in '03. They are the predominant builder of high-end condos in Stockholm. They have 50% market share in Stockholm, 30% of the high-end housing market in Sweden. They also build offices in other countries, but primarily they are a housing developer of mid- to high-rise buildings.
We were able to buy it under 100 because the market in Sweden was very depressed after 2000, when the high-tech bubble burst. We've been selling. I don't want to eliminate my position because this is an excellent company, but more than the easy money has been made here.
What's the geographical breakdown of the international fund, which has assets of around $550 million?
We have been over 40% to 45% in Europe, and we are bringing that down. We think there are opportunities in Eastern Europe, and there are still companies that we like in Western Europe as well as the U.K. But Asia, of course, is where the growth is. So we are gradually shifting a higher proportion to Asia; we have about 35% there now. The balance would be in the Americas, both Latin America and Mexico. We do keep some in the U.S., about 12%. From our perspective, Hong Kong is still very attractive.
We've built a pretty good-sized position, including some recent purchases in a company called Far East Consortium [35 HK]. They are in Hong Kong and are a play on everything from China, where they have housing developments outside of Shanghai, to hotels in Hong Kong, where they have a lot of business-class hotels.
They also are a play on Macau. They are developing much of the Cotai Strip on behalf of and in conjunction with Las Vegas Sands [LVS]. Macau is where there's legal gambling, and Wynn Resorts [WYNN] and Las Vegas Sands are trying to effectively recreate a Las Vegas adjacent to China. Macau is near Hong Kong, on the other side of the Pearl River Delta.
How well has this stock done for you?
It's up 32%, year to date. We've been buying this since back in 2004 -- I think in the high $1.80 to $1.90 [Hong Kong dollar] range. We bought much more after it spiked in 2004, and we have been buying it ever since, on dips. It is now 3.73.
In the U.S., what sectors would you be cautious about?
Rental-housing companies have good fundamentals for the next three to four years, but they are very, very expensive. We'd be cautious on the higher-end companies, like AvalonBay Communities [AVB] and Archstone-Smith [ASN]. They are two of the best companies in the group; we just don't want to pay 24 times cash flow for them.
Let's talk a bit about your third major fund, Alpine Realty Income & Growth. What have you added to that lately?
Sure. But, first, let me give you one more international story, one in Europe, Dawnay, Day Treveria [DTR LN]. This is listed on the U.K. exchanges, but it's basically a company set up to buy German retail property. Its prospects are very good, with Germany [launching REIT-friendly legislation]. It will reach a certain scale and will either be acquired over the next three years or will gradually benefit from rising rents in Germany.
OK, in the income fund, one stock that maybe offers a little more yield is iStar Financial [SFI], which is trading around 38. Its dividend yield is 8.1%, and we think it will start increasing the dividend growth rate over the next couple of years. They specialize in mortgages through commercial-property companies, and are the largest player in the sector.
It has underperformed dramatically, year to date. The markets have been concerned about mortgage REITs in general. And they felt that iStar was actually giving up market share to more aggressive companies. But frankly, I think that the stock should be easily 15% higher.
Thanks, Sam.
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