Starwood: A Star Among REITs

09/08/2014 7:00 am EST

Focus: STOCKS

Khoa Nguyen

Investment Analyst, Investing Daily

One of our favorite high yielders is a real estate investment trust helmed by real estate investor Barry Sternlicht, who is best known as the founder of Starwood Hotels & Resorts Worldwide, says Khoa Nguyen, editor of Personal Finance.

He left the company in 2005 to return full-time to real estate investing at his private investment company Starwood Capital Group.

Sternlicht launched Starwood Property Trust (STWD) in 1991 to do commercial real estate lending and to invest in commercial real estate debt, including higher risk, or distressed, debt.

Starwood Property Trust is focused on paying a consistent, rising distribution, as you can see in Rising Starwood. It offers a yield of 8.1% after boosting its distribution by 4.3% at the beginning of this year.

The REIT made a key acquisition last year, LNR Property, which is a steady source of income and will help Starwood identify good investments. LNR services commercial real estate mortgages (primarily distressed debt) and is the second-largest servicer of distressed US commercial real estate loans.

The acquisition gives Starwood unparalleled information about market conditions and property prices in individual markets—and even neighborhoods.

Starwood’s two businesses are now its real estate investment lending division and LNR. LNR handles about $131 billion worth of loans, or about 30% of the real estate debt market. Its street-level market intelligence not only gives Starwood a competitive edge over its smaller peers, but it also ensures that the company knows how to price future deals–and which deals to walk away from.

Starwood’s real estate investment segment holds a portfolio of first mortgages—at 35.7% of net investments—and subordinated loans (loans paid after other credits are satisfied)—at 33.3% of net investments. The rest of the portfolio includes commercial mortgage-backed securities and preferred equity, among other investments.
In terms of loan balance by property type, hotels account for 34% of holdings, office space is 25%, retail is 13%, and land, mixed-use, and industrial and multifamily properties account for the rest.

Starwood’s second-quarter, core earnings—cash flow from which distributions are paid—were impressive. It rose 67% to $115.2 million, or $0.51 per share, compared with $69 million, or $0.42 per share, in the year-ago quarter.

Excluding LNR, which was not factored into last year’s earnings, the company’s real estate investing segment saw a 48% gain compared with the second quarter of 2013. The LNR segment contributed $39 million to core earnings, or $0.17 per share.

The company says its core earnings per share for full-year 2014 will be between $2.00 and $2.20. Even if earnings come in at the low end, that would cover the distribution it announced. Starwood Property Trust is a buy up to $24.50.

Note, because of the structure of real estate investment trusts, up to 90% of taxable income is paid to unit holders. The catch is that the onus is on the unit holder for the taxes; these distributions are reported differently and involve extra paperwork.

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