Starwood Property Trust: Strong Buy For This 9.1%-Yielding Top-Shelf REIT – Starwood Property Trust, Inc. (NYSE:STWD)

Starwood Property Trust, Inc. (STWD) looks like a good deal on the sell-off. The real estate investment trust has sufficient excess dividend coverage to maintain its current dividend payout, and the sell-off in the REIT sector has made Starwood Property Trust more affordable. The reward-to-risk ratio has improved, and there’s a reasonable chance of a dividend hike in 2018.

Real estate investment trusts have shown some weakness lately as income investors took profits in dividend-paying stocks. Starwood Property Trust is not the only income vehicle whose share price has come under pressure in 2018. Realty Income Corp. (O), National Retail Properties, Inc. (NNN) and STAG Industrial, Inc. (STAG) are other high-quality income plays that have fallen back lately on profit taking. The drop is a good opportunity in my view to add Starwood Property Trust to a high-quality income portfolio.

Source: StockCharts

Starwood Property Trust – Snapshot

Starwood Property Trust is the largest commercial real estate investment trust in the United States with a huge portfolio of floating-rate loans. While the REIT also makes direct real estate investments, the lending business is the company’s crown jewel. The lending segment contributes more than half of Starwood Property Trust’s core earnings.

Source: Starwood Property Trust Investor Presentation

Starwood’s lending segment largely consists of secure first mortgage loans and the loan portfolio is diversified along geographic and property type categories. Loans for office, mixed use and hotel properties combined account for 70 percent of the REIT’s investments.

Source: Starwood Property Trust

Starwood Property Trust’s loan portfolio is made up of variable-rate loans (93 percent) which will serve the company well as long as interest rates are climbing.

Higher interest rates should translate into higher net interest income from Starwood Property Trust’s floating-rate loan portfolio, which in turn could be a positive catalyst for a dividend hike in 2018.

Source: Starwood Property Trust

In a nutshell, Starwood Property Trust’s positive interest rate sensitivity is the company’s biggest selling point right now.

The REIT already covers its dividend quite easily with core earnings, but higher NII in a rising rate environment could yield a dividend raise AND be a catalyst for a higher core earnings multiple.

Source: Starwood Property Trust

As far as dividend coverage is concerned, Starwood Property Trust over-earned its stable, going dividend rate of $0.48/share, on average, by 13 percent in the last nine quarters.

Here’s Starwood Property Trust’s dividend coverage chart.

Source: Achilles Research

The Sell-Off Is An Opportunity

Starwood Property Trust’s shares change hands for ~8.1x Q3-2017 run-rate core earnings and 1.22x book value. The real estate investment trust today is quite a bit cheaper than it was just a couple of months ago.

ChartSTWD data by YCharts

Your Takeaway

Starwood Property Trust brings a lot to the table: The REIT has a well-performing lending segment with a high percentage of variable-rate loans in its investment portfolio. Since the Fed is expected to raise interest rates three times in 2018 (maybe even more!), Starwood Property Trust’s core earnings are poised to grow, which in turn could yield a dividend raise.

The drop is a good opportunity to add Starwood Property Trust to a high-quality income portfolio in my opinion. Shares are very reasonably valued after the latest drop, especially when considering that the REIT has excellent dividend coverage stats. Buy for income and capital appreciation.

If you like to read more of my articles, and like to be kept up to date with the companies I cover, I kindly ask you that you scroll to the top of this page and click “follow.” I am largely investing in dividend paying stocks, but also venture out occasionally and cover special situations that offer appealing reward-to-risk ratios and have potential for significant capital appreciation. Above all, my immediate investment goal is to achieve financial independence.

Disclosure: I am/we are long STWD, STAG, O, NNN.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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