Profit Like a Real Estate Mogul (Without Buying Property)

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Editor's Note: Bill Patalon's readers enjoy regular access to his high-profit research and best money-making, market-beating ideas. We're sharing Private Briefing with you today because it contains a play on the intersection of several current U.S. and global market trends. And where those trends meet, there's money to be made. Here's Bill...

With a 37% gain in The Blackstone Group LP (NYSE: BX) since late July, we've done really well with our targeted investment in real estate.

And with very quick gains of 9% in BRF SA (NYSE ADR: BRFS), 5.2% in South American agricultural play Adecoagro SA (NYSE: AGRO) and 1.6% in high-tech agribusiness player Neogen Corp. (Nasdaq: NEOG), we're doing well with our plays on (pockets of) accelerating U.S. inflation.

Today we're going to combine the two concepts and employ a very simple formula we believe will add to your profits.

The formula: Inflation + Real Estate = Cash in Your Pocket.

And we're going to recommend two stocks we expect will benefit from what we're seeing...

Rising Prices

As we detailed in several Private Briefing reports this month, food prices are soaring.

But as the latest U.S. inflation report demonstrated, it isn't just the zooming prices of tomatoes or lettuce that are kicking U.S. consumers in the keister ...

It's also soaring rent costs.

Before you dismiss that as a non-issue, keep this in mind: The financial crisis and Great Recession of 2009 were touched off by a housing debacle and the subprime-mortgage crisis.

The fallout was deep - and lasting.

According to a brand-new story in U.S. News & World Report, home ownership rates fell from about 70% before the recession to a low of about 65% in the downturn's depths. And while record-low interest rates have helped bring folks back to the "I've got a job and a mortgage" world, the fact is that home ownership rates were still at a very low 65.2% as 2013 drew to a close.

In short, the Great Recession created millions of new renters.

And right now those renters are feeling the pinch.

Back in January - the newest figures available - rent for a mid-sized apartment was up an average of 3% nationwide on a year-over-year basis. That may not sound like much. But it's almost double the U.S. inflation rate of 1.7%.

And the story gets worse - much worse, in fact - if you look at the hottest markets.

Like tech-fueled San Francisco, for example.

And there's quite a story to tell.

Nothing But 'Net

Before the big tech bull market we're riding now (by "tech bull," I'm referring to all the growth and innovation - and not just stock prices), the last Silicon Valley surge was the 1999-2000 dot-bomb debacle. As the Internet burst on the scene as a new consumer venue, the sector got ahead of itself and imploded. The rate of growth - and, hence, the tech bull itself - just wasn't sustainable.

It took nearly a decade for the sector to get up a new head of steam. And the current bull market is sustainable, says in-house tech guru Michael Robinson.

"As your folks have heard me say, Bill, I think there's lots more room for this tech boom to run," he said. "We're talking about big convergences of major trends - with more to come, still. That'll fuel growth, wealth creation, and lots of new jobs for years to come."

When you create all those new jobs, all those folks have to live, eat, and sleep somewhere.

And lots of them rent.

Just look at what some experts have to say.

When Chuck Post became a leasing agent out here in the Bay Area back in 2009, the post-financial-crisis rental market was so bad that he often had to offer "discounts" on rent, inducements like free parking, and even the first month free - just to get prospective tenants to sign on the dotted line.

But the tech boom has turned the San Francisco rental market into a real estate version of the Wild West.

Thanks to a tech-assisted U.S. recovery, a record-breaking rebound in stocks, and the emergence of entirely new sectors in tech, Bay Area landlords are now calling the shots.

Prospective tenants are lining up when a new listing appears, apartments get snapped up in a week or less, and rents are skyrocketing, Jed Kolko, chief economist for housing-services player Trulia Inc. (NYSE: TRLA), told The San Francisco Chronicle.

"Rents are rising faster in San Francisco than almost anywhere else in the country," Kolko said. "Rising rents are a bigger challenge than rising home prices, especially in a place like San Francisco where buying is out of reach for many middle-class and lower-middle-class people."

The statistics that bear this out are real attention-grabbers.

In San Francisco in the third quarter, the average monthly asking rent in the bigger complexes punched up through the $3,000 barrier for the first time ever - hitting a record $3,096, says researcher RealFacts.com. That represents a year-over-year bump of 11.9%. And median asking rents for San Francisco rentals listed by apartment-leasing-service Lovely rocketed a massive 21% to hit a record $3,398 for that same time period, The Chronicle says.

And don't expect a reprieve: San Francisco experienced the single-biggest rent increase in America in January, a 12.3% surge that jumped the monthly rent of a two-bedroom flat to $3,350 a month.

In other words, Bay Area rents are rising four times faster than the national average. An analyst with a prominent think-tank says the soaring apartment costs are creating a "crisis of affordability" that could short-circuit the tech boom.

There are other rental "hot spots" like this around the country. And that means this "rent inflation" is a very big deal.

"Bill, as you've pointed out to your readers, in the broader U.S. economy we're seeing how skyrocketing rent costs are joining with zooming food prices to become inflationary catalysts that are hurting consumers and perhaps putting the U.S. recovery in danger," Michael said this week. "But as veteran observers of business, you and I both know that, whenever a problem like this arises, the most-ambitious and innovative companies will seek to solve it - while making a hefty profit in the process. As an investor, if you can find those companies, you get de facto "protection" from the problem itself, because you're profiting from the solution. And you often find a winning stock in the process."

In fact, we believe found two.

The first is CoreLogic Inc. (NYSE: CLGX), an Irvine, Calif.-based company whose broad suite of analytic tools can help landlords make better and faster decisions when it comes to screening potential renters. With better and more accurate filtering procedures, landlords reduce their risks of loss from late or unpaid rents, or even from property damage.

And the second is Trulia Inc. (NYSE: TRLA), a San Francisco-based real-estate search engine company. It offers free and subscription-based products that provide real estate professionals with access to transaction-ready consumers.

Let's start with CoreLogic, a company Michael has followed for a long time.

The Core of the Matter

As those of you who've been in the business world know, if you can control costs, reduce "slippage," and slash waste, you can hold your prices in line, or even reduce them. And in the apartment market, the "price" of the product is the rent.

CoreLogic's "SafeRent" system lies at the heart of the company's tenant-qualifying technology. It's an advanced computer modeling platform that helps landlords screen prospective tenants based on a comprehensive database that replaces hunches and simple credit checks with statistically valid data.

The firm also has a huge repository of information it taps to perform thorough background checks on prospective tenants. It can look for such "red flag" issues as criminal records and instances of violence, property destruction, sex offenses, or financial crimes.

As important as this service is for the national rental market, tenant screening remains a small part of what CoreLogic provides. Indeed, the company ranks as the nation's largest Big Data play on the real estate industry.

"You know, Bill, when we talk about 'Big Data,' what we're really referring to is specialized computer tools that can burrow through massive amounts of raw, uncategorized and unstructured data - and come away with an actionable analysis," Michael said. "And that's just what CoreLogic does."

Consider that the company operates databases that encompass more than 3.3 billion records in the United States, Australia, and New Zealand. In recent years, the company also has added operations in the United Kingdom, Canada, Mexico, and India, making this a great global real estate play.

And it can branch out beyond real estate, which makes it even more intriguing.

CoreLogic also has information of use for such sectors as auto sales, oil and gas exploration, and telecommunications. In other words, CoreLogic maintains across-the-board records on almost anything dealing with property. And it also maintains the credit information used for such things as auto loans and home mortgages.

Thanks to its vast repository of data and records, CoreLogic can mine:

  • More than 147 million property records
  • Historical data on more than 795 million real-estate transactions
  • Tax-payment history on more than 128 million parcels
  • More than 99% of all U.S. county, municipal, and special-tax-jurisdiction tax records
  • Relationships with more than 650,000 real-estate agents and brokers, as well as 17 of the top 20 multiple-listing services (MLS) and 2,500 mortgage bankers
  • And approximately 23 million active tenant/landlord records representing approximately 70% of the rental market

And it doesn't stop there.

CoreLogic also owns one of the most widely watched indexes of the nation's real estate market. In 2013, CoreLogic acquired Case-Shiller, which in particular is known for tracking home-price changes in 10 major metropolitan regions.

A Foundation in Real Estate

Launched in 2010, California-based CoreLogic traces its roots back 50 years. The turning point in its current history occurred in 1991 when it was combined with two other companies to create a far-flung real estate information-services firm.

In the years that followed - as a bystander and even a victim in several M&A deals - CoreLogic changed hands several times: Four years ago, it was spun off as a standalone, publicly traded firm specializing in real-estate and financial-services data. Its specialty, of course, was mortgages and consumer loans.

But thanks to its vast property records, it's now becoming a major beneficiary of the big surge in shale gas exploration and production - which most folks refer to as the "fracking boom."

In particular, it maintains information on leases, property tracts, and mineral rights in the Marcellus Shale region, a section of Appalachia that is thought to contain 1.9 trillion cubic feet of natural gas.

The company provides comprehensive shale surface and subsurface ownership data for Pennsylvania, New York, Ohio, and West Virginia for the Marcellus. It's doing the same for the related Utica Shale deposit.

Cashing In

Backed by the depth and breadth of its databases - and benefitting from the analytic tools it developed - CoreLogic turned in a strong financial performance last year. For 2013, sales hit $3.3 billion, up 7.7% from the year before, Michael told me. Net income from continuing operations came in at $130.2 million, a one-year increase of 43.3%.

CoreLogic was recently trading at $28.50 a share, giving the company a market value of $2.6 billion. The stock currently trades at a forward price/earnings (P/E) ratio of 14.5 - a one-third discount to the 19.34 forward P/E of the widely watched Russell 2000 Index of small caps.

"I'd like to see better profit margins, but the company recently launched a plan to cut overhead and improve operating income," Michael explained. "We'll have a better idea of just how good a job CoreLogic is doing when it reports its first-quarter financials next week. But, earnings aside, investors should look at CoreLogic is a great long-term Big Data way to play multiple industries at once. Over the last three years, it has grown its earnings per share (EPS) at a rate of more than 60%. Even if we cut that rate in half, per-share profits could double in less than three years. And the stock will move in kind."

That brings us to our second real-estate-inflation profit play.

Trulia Great Stock?

Trulia shares gained nearly 7.3% on Monday after signing a direct data license with My Florida Regional MLS (multiple-listing service). According to the latest reports, the deal will allow brokers to directly syndicate their listings to the Trulia service. My Florida Regional is a Top Five U.S. MLS, powering more than 100,000 listings.

"By entering into a direct license agreement, MFRMLS is ensuring the integrity of their brokers' listings and creating transparency with Trulia," Alon Chaver, Trulia's vice president of industry services, told reporters. "Brokers choosing to send their listings direct to Trulia no longer need to worry about having to update information and can focus on engaging consumers and supporting their agents in converting consumer inquiries into closed transactions."

This is a company that's experiencing strong revenue growth and expanding profit margins - and good cash flow from operations. In its latest report, the company said revenue soared 142% on a year-over-year basis - a showing that far eclipsed the industry average of less than 12%. Trulia's net operating cash flow rocketed 144% to $4.39 million, more than six times its peer-company average of 22%.

There's a good chance for a "short squeeze" on the stock, too. So-called "short interest" on Trulia's shares climbed 14.5% during the most recent reporting period and now accounts for a "whopping" 35.4% of the stock's available float, Schaeffer's Investment Research reported Monday. At the normal trading volume, it would take nearly two weeks to cover those bearish bets, Schaeffer's said.

At a recent price of $34.22, the stock is down a hefty 35% from its 52-week high of $52.71. And on a beaten-down stock, my favorite thing to see is insider buying - or buying by "knowledgeable outsiders."

And the latter is just what we have with Trulia.

In a late-March filing with the U.S. Securities and Exchange Commission (SEC), Morgan Stanley Inc. (NYSE: MS) reported taking a 5.2% stake in Trulia during the first quarter. The 1.94 million shares it held as of March 31 represented an increase of 6,973% from the 27,438 shares it held on Dec. 31.

Now because Morgan Stanley is a broker-dealer, some of these shares can be held on behalf of its clients. But other investment banks and hedge funds also have sizable stakes.

The stock was likely oversold because of the slowdown in housing - some of which was due to the horrid winter. As a young-and-growing player, it has an opportunity to cut additional deals, which can serve as catalysts.

For instance, Trulia last year bought out industry rival Market Leader Inc., creating an online venture that was said to have the largest premium subscriber base in the online real estate industry. The combined venture was billed as having "unprecedented, end-to-end marketing solutions for real-estate professionals - as well as an industry-leading 50,000 premium subscribers."

ActiveRain, the blog network that was acquired by Trulia as part of the deal, was to continue to exist as part of Trulia's web presence.

Look for more deals and more innovation - any of which could serve as a near-term catalyst for the stock. And there will ultimately be consolidation in the industry, which means it will get bigger through internal or external growth - and could one day be bought out.

The bottom line for us is that it's about time that the surge in inflation starts putting some money into your pocket - instead of always taking it away. And we're going to keep finding ways to make that happen.

About the Author

Before he moved into the investment-research business in 2005, William (Bill) Patalon III spent 22 years as an award-winning financial reporter, columnist, and editor. Today he is the Executive Editor and Senior Research Analyst for Money Morning. With his latest project, Private Briefing, Bill takes you "behind the scenes" of his established investment news website for a closer look at the action. Members get all the expert analysis and exclusive scoops he can't publish… and some of the most valuable picks that turn up in Bill's closed-door sessions with editors and experts.

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