Profiting from Hovnanian - Even in Case of Bankruptcy

To be certain, some homebuilders will go through bankruptcies before this credit debacle is over. But here is a trade where you should win big if Hovnanian (HOV) survives and break even if it goes bankrupt.

Hovnanian has a preferred that trades on Nasdaq (HOVNP) which has a coupon off of a $25 dollar par of 7.6%, or .477 cents a quarter. In March of 2007, it traded at 24.50, almost par. As the housing situation started to unravel, the preferred started to weaken - at some point the company was doing whatever it could do to prevent a bankruptcy filing and halted payments of the preferred dividend. This caused a plunge in the preferred shares.

A situation now exists where you can buy the preferred at a discount to the common. If the preferred ever starts paying dividends again, my bet is that it will spike up to the low 20s, most likely then trading at a significant premium to the common shares. If you buy the preferred shares and short the common, if Hovnanian never recovers your principal will still be protected. Seeing that the company is hemorrhaging cash right now, odds are they will eventually seek Chapter 11 protection.

Buy HOVNP, short HOV.

Disclosure: none

Comments

[OldDSLagent]

I worked for KHOV in California a few years ago. It is the most dysfunctionally managed company I have ever seen. Tyranny and intimidation were art forms. They talked about customer satisfaction and service but really only cared about closings. The california region lost $109mm last year on 994+- home closings...hard to make that up in volume! Layoffs this past week reflect the slow to respond mentallity of finally merging two operatations in southern California.

[fmontyr]

And what happens if HOV manages to survive this housing crisis? It did once before and the Hovnanian family is positive on its survival chances. HOV can rise well above 25 while the preferred, HOVNP, will be capped around 25. On a rising price of HOV, one would suffer a loss on this short - long positioning.

[Nate C]

Since HOV is going bankrupt why not just short the common and forget about the preferred. I agree HOV is burning through their cash and can only sell so much land (at substantial losses) to raise cash.

[Home Boy]

If what I hear about management is true, then they could be another victim to this Mortgage/Credit/Home crisis. Not only will they have units coming back to market in foreclosures and defaults, they will have to contend with the continuing credit crisis which is far from over and lenders who continue to have strict requirements to fund loans these days. I would stay clear of HOV and other builders right now as they still might have more to clear out.