How to profit from the housing mess

When you short, you are making a bet on direction -- down. With futures, as with sports betting, you have to make two wagers -- direction and magnitude. Las Vegas two-year futures are trading at a price that predicts the Case-Shiller index will decline 16% by November 2009. If you buy the contract you're betting it will decline less; if you sell it, you're betting it will decline more.

When rent is a buy

Going long, which is the usual practice of buying an investment product, is the only style I and most other people practice. The most apt product to buy as a counter to falling home prices is the iShares apartment REIT, or real-estate investment trust.

When the housing market was strong, residential REITs suffered as they lost tenants to homeownership. With the situation reversed, apartment living is suddenly more competitive.

Ishares FTSE Nareit Residential Index has 21% of assets in Equity Residential (EQR, news, msgs) and 16% in AvalonBay Communities (AVB, news, msgs). Equity Residential operates multifamily dwellings in a majority of states, including both coasts as well as the Midwest and Southwest. AvalonBay operates what it calls "apartment communities" in "high-barrier-to-entry" markets.

If you own a real-estate mutual fund you probably already have some exposure to this marketplace. T. Rowe Price Real Estate (TRREX) has its third-largest weighting in Equity Residential.

A pessimistic position

Shorting is a dicier proposition. You can't do it in retirement accounts like IRAs, and it's between you and your broker whether you can find shares to borrow. In general, the less liquid an exchange-traded fund is, the harder it is to short.

Ishares Dow Jones U.S. Home Construction has only 2.1 million shares outstanding and total assets of $76.0 million. SPDR S&P Homebuilders has 10.9 million shares and assets of $331.1 million. Even that is small compared with a really popular ETF such as iShares FTSE/Xinhua China 25 Index (FXI, news, msgs), which has 51.4 million shares and $5.34 billion in assets.

You'd be walking in front of a train to go long on either of these funds, but you could be a puppy under a falling piano if you go short. The current price could fully reflect investors' fears about the group's prospects for years to come, as futures' prices already do. The SPDR actually rose 1.9% in the week ended Oct. 11.

The majority of investors will do best to ignore the epicenter of the housing debacle and focus instead on collateral damage, such as beaten-down bank stocks and funds. But if you are drawn toward it, I recommend the apartment REIT fund, as well as REITs in general.

• Video: Hot and cold real-estate markets

REITs took a thumping earlier this year but they've rebounded strongly; the T. Rowe Price fund is up 12.3% in the last month. The commercial-property market is robust and provides an inflation hedge as well as, historically, high single-digit returns.

Meet Tim Middleton at The Money Show

MSN Money's mutual funds columnist will be one of more than 320 investment experts sharing their strategies for 2008 at the The World Money Show in Orlando, Fla., Feb. 6-9. Spend four days planning and refining your portfolio as you choose from more than 320 workshops and panel presentations.

Admission is free for MSN Money users. Call 800-970-4355 and mention priority code No. 009553, or click here to register online.

At the time of publication, Tim Middleton owned the following securities mentioned in this article: T. Rowe Price Real Estate.

< previous |  1 | 2 |