Stock Picks: BX Up, KBH Down (Market Movers)

Published Oct. 12, 2009 at 4:00 a.m.

Blackstone Group Up

Shares of the Blackstone Group (BX), a private equity and hedge fund powerhouse, spiked Monday after it announced it was readying eight portfolio companies for sale.

Shares were up 7.5% in midday trading after founder Steve Schwarzman called a market bottom for the buyout business. "We see the world changing once again," Schwarzman wrote in a letter sent to investors on Friday: "At least for private equity, the worst is behind the industry.” The Wall Street Journal reported that Blackstone planned public listings for TeamHealth, an outsourcing company, Merlin Entertainments Group, a European company that owns Legoland and Sea Life. A private sale of Kosmos Energy could fetch $1.2 billion.

Mergers and acquisitions activity has been on the rise in the past several months as credit market conditions improve, particularly for the high-yield debt used to finance many private equity deals. Michael Hecht, an analyst at JMP Securities, says Schwarzman's assessment of the market is one of cautious optimism.

"I don't think it means we're back to the boom times of a couple of years ago," Hecht says. "We're just starting to see things improve."

Blackstone has around $94 billion in assets under management; in a much-heralded 2007 IPO, it sold about a quarter of its stock at $35.06 a share. The price quickly plummeted, hitting a $3.55 a share low in March of this year, nearly a 90% loss in value. It's now at less than 50% of its issuing price, but has more than quadrupled in value from the recent market bottom. "They're a great play on the alternative investment class," says Hecht, who believes that revenue from management fees will be augmented by a big surge in sales and deal fees over 2010. "Incentive fees [for deals] tend to be lumpy. They're still a natural flight to quality choice."

Bottom Line: Buy
For investors with high risk tolerance and long investment horizons, getting in on the upswing of the highly cyclical private-equity business could be rewarding, but only with a good dose of patience.

KB Home Down

Builder KB Home (KBH) disclosed that the Securities and Exchange Commission was investigating its accounting practices, sending shares down 5.5% in midday Monday trading.

The Los Angeles-based homebuilder, which has been ravaged by the collapse of the real estate market following the subprime mortgage crisis, said Friday the SEC was formally investigating its accounting and disclosure practices. 

"The staff has stated that its investigation should not be construed as an indication by the SEC that there has been any violation of the federal securities laws," the filing said. "The company is cooperating with the staff of the SEC in connection with the investigation. The company cannot predict the outcome of, or the timeframe for, the conclusion of this matter."

Stephen East, an analyst with Pali Capital, wrote Monday that it's too early to tell how the latest regulatory run-in will affect KB Home. "Given its history of options backdating with its former CEO, Bruce Karatz, one’s first assumption is that this issue is still lingering," East wrote, noting that Karatz was forced out three years ago. "However, we have nothing to confirm that thought process. Other potential issues could include joint venture accounting, inventory impairment accounting or its mortgage finance operations accounting."

The investigation adds to KB's list of problems – such as not having had a chief financial officer for the past two years – but the builder is big enough to survive and prosper as the economy recovers, East added. KB Home is one of just a few large publicly traded builders that can effectively compete at the lower price range, which puts it in an excellent position for the next couple of years, he concluded.

Bottom Line: Hold
Selling into weakness – and a lack of knowledge – is rarely a good idea. But even with KB Home's history of regulatory clashes, buying without knowing what's going on could be risky as well.

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