Here's My Favorite Real Estate Stock for 2022

Master-planned community developer Howard Hughes Corporation (HHH 2.66%) isn't exactly a household name, but it is one of the most interesting real estate stocks in the market. In this Fool Live video clip, recorded on Jan 7, Fool.com contributor Matt Frankel explains to colleague Jason Hall why it's his favorite real estate stock to buy as 2022 gets underway. 

Matt Frankel: The theme of today is three real estate stocks that we love for 2022 and I'm going to talk about one called Howard Hughes Corporation ticker symbol is HHC, and this is one that's struggled for a few years to really find it's direction. But I think that this year could be a bit different and I know "this time is different" is the worst thing you could hear in investing.

Jason Hall: That Matt, they've got a strategy in place. I really like what they're doing. I'm glad you're pitching the stock, I really am.

Frankel: I love what their new management team's doing. We had David O'Reilly, their CEO, on the show not long ago, right before they announced their latest big development. I wish I would have waited a week or two to interview them. But if you're not familiar, Howard Hughes is a developer of what are called master-planned communities and that term gets used a lot by real estate developers, but there is a really yet another level. Think of them as a real-life version of the video game SimCity, if you've ever played that.

What they do is they acquire these massive plots of land, think tens of thousands of acres and I will show you the examples in a second. But so they'll acquire tens of thousands of acres of land near a major city. Houston is one of their big markets. Las Vegas is one of the big markets. Where I am I could actually see their Summerlin community out of the window I am at right now. It's actually a really interesting business because what they do is still acquire all this raw land for cheap, because think of Las Vegas, 20,000 acres in the desert isn't exactly prime real estate and what they'll do is they'll incrementally sell a little bit of that off to a residential developer who will build a neighborhood there. That neighborhood will create demand for commercial assets.

People who live there need officers, they need stores to go to, they need hotels for their friends to stay at, so they'll build commercial amenities and the presence of those commercial amenities makes the surrounding land even more valuable, so they'll sell more to other home builders at elevated prices, and the cycle can repeat for 50 years in many cases. It takes a long time to build out, say a 40,000-acre community. It's a really interesting value creation model and first, I want to just briefly show you their main master plan communities if you can see that.

These are where their markets are, their flagship community is known as The Woodlands in Houston, that's their biggest one that's developed so far land wise. You can see in the Houston market, there's over a 135,000 people that live in their communities, and these are ultimately created by Howard Hughes or predecessor corporations. The Summerlin market in Las Vegas, essentially they built a city in the middle of the desert, right near the Las Vegas Strip.

You can see 22,500 acres, so massive, massive community, 116,000 people there, yet it's not even close to being built out yet. There's a lot of raw land adjacent to it that they are still selling. A lot of potential. The Phoenix is the most exciting one, which I think is what Jason was referring to a little earlier. This is one they just bought 37,000 acres, that will be their biggest community yet land wise.

Hall: It's probably the one that will take place over the longest period of time.

Frankel: You're right. It's raw land so far.

Hall: Yeah.

Frankel: That 40,000 acres in Houston by the way is split between three communities. The Phoenix one is going to be the biggest one. It's completely raw land, but it's shovel ready land, it's ready to build. They're planning on doing the first land sales this year, the first half of 2022 to homebuilders and really hitting the ground running with us. They are planning a 50-year build-out of this, so this is a long-term value creation.

They paid very little for this land. I mean, they paid $600 million which sounds like a lot, but on a per acre basis, it's really cheap when you consider what buildable homeland is going for these days. A lot of long-term value creation potential commercial amenities, office buildings, schools, the Las Vegas community as a whole Downtown district now with a baseball stadium and event venues, things like that. The Maryland, the downtown Columbia one is their most mature community that was started in the '60s I believe, and it's pretty much built out by now. Hawaii is really interesting with their Ward Village neighborhood.

Very small acreage wise, but it's beachfront land in Hawaii, you're not going to get 10,000 acres. Their business model there is essentially building condos and selling them. Jason, I know I'm going to give a little teaser. Jason is talking about homebuilders today and let me give you the statistic that Howard Hughes' average profit margin on a condo they've sold in Hawaii is 30%. Thirty percent margin on the condos they've developed.

Hall: That's really good if anybody's wondering.

Frankel: Any home builder could tell you that they would love to have a 30% margin. Those are Howard Hughes' communities and just to scroll down to this one right here real quick. Here's what I meant by the value creation cycle. If you look at the graph on the left for Summerlin, this is the Las Vegas neighborhood. In 2011, when hurricanes first went public, there was spun out from a company called General Growth Properties, which is a shopping mall company that was later required. Their average price per residential acreage that they sold was $366,000. In 2021, the average price they got for a residential acre was $858,000 and the reason is that cycle of value creation. People want to be near attractive downtown districts. That makes the lands surrounding them much more valuable than when it was essentially raw.

Hall: It takes somebody at scale that can plan something this big to make it attractive and worthwhile for homebuilders. Most homebuilders are small local builders, 10 or 15 large homebuilders that build all over the U.S. But most homebuilders are these small operators. There's nothing for them to do without all of the other stuff around it, right?

Frankel: Right and I mean, this is a huge long-tailed value creation. Imagine that graph I just showed you stretched out over 50 years with their new community. A 9% land depreciation rate over decades especially when you consider that this is a self-funding business model, is another really cool aspect of Howard Hughes. They don't like to borrow money to build things. They sell land to developers. They use that to build the commercial properties. Those generate rent, which creates even more cash flow for future growth.