STWD - Blackstone Mortgage Trust: Don't Miss The Drop On This 11% Yielding CRE Trust

2023-07-28 11:32:02 ET

Summary

• Blackstone Mortgage Trust provides a dip buying opportunity for passive income investors after recent stock price weakness.
• The trust's origination business halted in 2023, but dividend coverage remained steady in 2Q-23.
• The trust has a large exposure to the office real estate sector, which could pose risks to dividend coverage and earnings growth.

Blackstone Mortgage Trust, Inc. ( BXMT ) provides passive income investors with a dip buying opportunity after the commercial real estate investment trust has seen some stock price weakness in the last couple of days.

The trust's origination business ground to a halt in 2023 amid higher interest rates and headwinds in the office real estate sector, but Blackstone Mortgage Trust's dividend coverage quality nonetheless remained steady in 2Q-23.

Taking into account that the mortgage trust kept covering its dividend with distributable earnings and the stock trades at a 15% discount to book value, I continue to recommend BXMT to passive income investors that want to generate recurring income from a high-quality CRE stock. I maintain my strong buy rating and also discuss risks in this article.

Large Senior Mortgage Loan Portfolio With Office Focus

Blackstone Mortgage Trust is one of the largest commercial REITs in the United States, and the REIT has the corresponding portfolio size to prove it. The trust's investment portfolio primarily consists of senior mortgage loans with a combined net book value of $24.1 billion.

The portfolio included 191 investments and had a relatively moderate loan-to-value ratio of 64%. The loan-to-value ratio is a leverage indicator and shows how much risk a real estate portfolio has. I consider a loan-to-value below 70% to be moderate and don't think that the portfolio includes an excessive amount of risk.

Demand for new mortgage loan originations ground to a halt in 2023 as high interest rates, rising vacancies, and overall softening fundamentals in the office market weighed on Blackstone Mortgage Trust's origination business.

The trust originated no new loans in 2023 but, instead, experienced a surge in loan repayments and sales. Total net repayments exceeded $1.0 billion for the second time in 2023 and the origination picture will likely remain bleak in the near future.

What could be a problem for Blackstone Mortgage Trust, and which probably explains the 15% discount to a book value the trust's stock trades at, is that BXMT has large exposure to the office real estate sector which has been plagued by rising fears over growing financial problems for banks and loan originators like Blackstone Mortgage Trust.

The allocation of funds to office real estate is quite large, and Blackstone Mortgage Trust could see headwinds in terms of distributable earnings growth and dividend coverage if the sector goes into a prolonged slump.

Blackstone Mortgage Trust had 35% of its net loans tied, a total of $10 billion, to the office market, which is by far the largest loan category for the REIT.

Due to the potential for additional credit losses in the senior loan portfolio, Blackstone Mortgage Trust increased its CECL (current expected credit losses) reserve by $27.2 million in the second quarter.

After adding $27.2 million to its CECL reserve in 2Q-23, the ending value (aggregate) of the CECL reserve at the end of the quarter was $363.9 million.

Dividend Coverage Remained Steady QoQ

Despite a slowdown in the mortgage origination business, Blackstone Mortgage Trust earned $0.79 per share in distributable earnings in the second quarter while the dividend pay-out remained steady at $0.62 per quarter.

Despite the increase in the CECL reserve, the company easily managed to cover its dividend with distributable earnings and investors need not worry about dividend sustainability, in my view.

Blackstone Mortgage Trust paid out 78% of its earnings in 2Q-23 and has a solid margin of safety which is a cushion against a blow from rising office loan defaults.

BXMT's 15% Discount To BV May Be Exaggerated

With interest rates being sky-high and demand for mortgage originations disappearing, the short-term situation for Blackstone Mortgage Trust is a challenge.

With that said, the REIT has no issue covering its dividend with distributable earnings and a dividend cut does not seem to me to be on the horizon, unless BXMT sees a severe decline in loan quality.

Starwood Property Trust, Inc. ( STWD ) and Ladder Capital Corp ( LADR ) are competitors to Blackstone Mortgage Trust in the CRE sector. Blackstone Mortgage Trust sells at a 15% discount to book value while Starwood Property Trust, due to its more diversified, multi-line portfolio, already managed to claw its way back to trading at book value . Investors that like dividend stability and diversification may want to prefer Starwood Property Trust over Blackstone Mortgage Trust.

I think passive income investors are seeing a buy-the-dip opportunity here as the trust's second quarter results were solid, and the stock has seen price weakness in the last couple of days. The $0.62 per share per quarter dividend translates into an 11% annualized stock yield.

Headwinds That Might Affect Blackstone Mortgage Trust's Valuation

The obvious headwind for Blackstone Mortgage Trust is the office portfolio, which is larger than any other sector and which would probably be the biggest hit in case the office sector goes into a slump. An increase in the CECL reserve is therefore a potential risk factor.

I am not yet worried about the trust's dividend, but should the trust's office loan quality deteriorate and translate into softer dividend coverage, the dividend could be on the chopping block.

My Conclusion

Passive income investors can collect an 11% annualized dividend yield on stock price weakness even though the dividend is covered by distributable earnings, and they can take advantage of the fact that the REIT's stock is trading at a 15% discount to book value.

The mortgage origination business is not in great shape right now, and the trust is probably going to see more repayments and loan sales in the near future.

As long as the trust earns its dividend with distributable earnings, and BXMT has quite a margin of safety in this regard, I am not worried about Blackstone Mortgage Trust's dividend.

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