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Speculating on Shadow Inventory

Friday, 15 Jan 2010 | 8:20 PM ET

Shadow inventory has been a specter haunting the housing recovery, as Wall Street has feared a sudden influx of foreclosed homes flooding into the market. If this scenario plays out, it could translate into a significant bump in business for Altisource Portfolio Solutions.

Shadow Casting
Instead of complaining about shadow inventory, Cramer looks for ways to make mad money.

Make no mistake, though, Cramer doubts shadow inventory will have such a drastic impact on housing, which is one reason why this stock falls under his regular speculation Friday segment. But there are people who predict we’ll see as many as 7 million defaulted mortgages. That creates a tremendous opportunity for any company that can keep foreclosure costs down.

Enter Altisource . The firm provides fee-based outsourcing services like property valuation, closing and title services, inspections and the managing of foreclosed properties to banks and mortgage servicers. Altisource also developed software for the mortgage industry that saves businesses both time and money, and it has a loan-collection division that should do well given the recent increase in credit-card-related charge-offs.

Basically, Altisource gets servicers and banks as much as it can out the foreclosure process with as little cost as possible. While a JPMorgan Chase might not need the help, there are plenty of smaller companies that do. And plenty more will if shadow inventory becomes a problem.

The speculation involved with this stock doesn’t just depend on whether or not that will happen, though. Altisource was spun off by Ocwen Financial , and the parent company remains Altisource’s largest customer, making up about 43% of sales. Cramer would typically steer investors away of such an arrangement, but Ocwen is contractually obligated to buy from Altisource, and the two companies share the same chairman.

The idea behind the spin-off was to allow Altisource the chance to win more outside business. Given that foreclosures aren’t going away anytime soon, this shouldn’t be too hard to do. Cramer said he expects the company to grow its 75-member client list and for Ocwen to increase to 50% from 25% the outsourced business that it sends to Altisource.

The stock is incredibly cheap, trading at just 9.7 times 2011 earnings with a 20% long-term growth rate. But remember, this is a highly speculative pick, as Altisource’s market cap barely over $500 million. And the company is so unknown that only one analyst covers it.

That means the usual rules apply: Wait for a pullback, use limit orders and buy in small increments.

And “make sure you’re OK with the risk before you pull the trigger,” Cramer said.

Cramer’s charitable trust owns JPMorgan Chase.

Call Cramer: 1-800-743-CNBC

Questions for Cramer? madmoney@cnbc.com

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