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Top Picks 2019: Starwood Property Trust (STWD)

01/08/2019 5:00 am EST

Focus: REITS

Tim Plaehn

Investment Research Analyst, Investors Alley

My favorite conservative stock pick for the coming year is Starwood Property Trust, Inc. (STWD), a finance REIT whose primary business is the origination of commercial property mortgages, asserts income specialist Tim Plaehn, editor of The Dividend Hunter.

As one of the largest players in the field, Starwood Property trust focuses on making large loans with specialized terms. This gives them a competitive advantage over banks and smaller commercial finance REITs.

Over the last several years, the company has diversified its business, branching into commercial mortgage servicing, acquiring real equity properties with long term revenue stability, and recently a portfolio of energy project finance debt. This diversification will allow Starwood Property Trust to thrive and continue to pay the big dividend in any financial environment.

In the commercial loan business, over 95% of the commercial mortgage portfolio has adjustable interest rates. This means that as the Fed increases interest rates, Starwood’s net income per share will grow. This REIT provides an excellent hedge against rising rates.

In recent years, the company has acquired what is now the largest commercial mortgage servicing firm. That arm of the business handles servicing, foreclosure workouts (for fees) and the packaging of smaller commercial mortgages into mortgage backed securities. This business segment would see the fees increase exponentially in the event of a recession where commercial property owners were forced to let go back to the lenders.

 In addition to the finance side of the company, Starwood has acquired selected real properties, including apartments, regular office buildings, and medical office campuses.  According to STWD’s CEO, “All of the wholly-owned assets in this segment continues to perform well with blended cash-on-cash yields increasing to 11.4% and weighted average occupancy remain steady at 98%.”

The property segment provides assets with long-life revenue streams to offset the shorter-term rollover schedule of the commercial mortgage portfolio. Real assets also add depreciation to the income statement, shielding cash flow.

In mid-2018 the company acquired a $2.5 billion energy finance business from General Electric. The loan book is non-recourse to Starwood Property Trust. Starwood Capital, the private equity manager of STWD, already had energy finance experts in house. This business segment has significant potential for growth.

This diversification of business segments by Starwood Property Trust is what separates this commercial finance REIT from its more narrowly focused peers. STWD has paid a $0.48 per share quarterly dividend since the 2014 first quarter. My investment expectation is that the dividend is secure, and I want to earn the 8.5% to 8.8% dividend year-after-year.

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