AGNC - Starwood Property Trust: Dividend Shower Not A Grower

2023-08-31 10:00:00 ET

Summary

• I discuss the importance of selecting sustainable dividend stocks such as Starwood Property Trust and warn investors about chasing after high yields that may not be sustainable.
• Starwood Property Trust is a safe investment option for dividend investors due to its consistency and efficiency.
• Starwood Property Trust is the largest commercial mortgage REIT in the United States and is known for delivering consistent returns over time.
• Although not a dividend grower, I think STWD is a great addition to a dividend portfolio as investors can use its consistent dividends for growth stocks.
• Starwood has taken a beating over the past year but has managed to grow its book value over the same period.

Introduction

The picture above reminds me when I first started reading on Seeking Alpha. I would often see investors talking about high-yielding, popular dividend stocks such as Medical Properties Trust ( MPW ) or Altria ( MO ). I know most of us enjoy money or even chasing it. Who doesn't? We all need money to survive. The clothes we wear cost money. The cars we drive cost money. Pretty much everything we do costs money. Especially now that interest rates are their highest in history. I remember when everyone used to talk about staying home to eat instead of going out. Now it seems like it doesn't even matter. To me it seems about the same as everything is so expensive right now. With that being said, there are stocks that offer investors a discount right now. But just because they're on sale, doesn't mean they make good investments. As a long-term investor, you have to be careful in your stock selection or you will get burned. One way to get burned is to chase after dividends that are not sustainable. I mean we all saw what happened to MPW recently. No one wants to hold a stock for its dividend just for it to be cut. We want pay raises over time, not to see our pay decrease. But a high yield isn't bad as long as it's sustainable. I prefer to invest in Equity REITs such as Agree Realty ( ADC ) or VICI Properties ( VICI ), as there are some mortgage REITs that I think are safe investments for dividend investors.

Starwood Property Trust ( STWD )

Starwood Property is a currently the largest commercial mortgage REIT in the United States. The company operates in four segments: Commercial & Residential Lending, Infrastructure Lending, Property, and Investing and Servicing segments. So the REIT is sort of a hybrid instead of just solely a mortgage REIT. STWD was one of my first dividend stocks I owned in my portfolio. I liked that they were conservative and efficient. As I get older I realize that's what I often look for with anything in my life. Consistency and efficiency. Something I don't have to pay close attention to but I know is going to deliver time and time again. STWD is not one of those investments that's going to wow you by delivering a huge beat on earnings and revenue. They're not going to pay some huge special dividend to its shareholders. It's just going to do what it does. Continue on down the track at the same pace. They remind me of that athlete that just doesn't get tired. The REIT has a $28 billion dollar portfolio that I consider to be well-diversified. Commercial loans account for 59% while Multifamily accounts for 20%. Having a well-diversified portfolio helps mitigate risks and navigate the rough macro environment that we are seeing now. Since the start of interest rate hikes, it has been business as usual.

Steady Eddy

As a dividend investor every stock in my portfolio serves a unique purpose. I don't just purchase them because of their yield, sector, brand, etc. I have a few that are dividend growth stocks, then I have my steady eddy's. These are some of my favorites because I don't worry about them as much. They're typically less volatile and trade within a certain range most of the time. Some stocks are highly volatile. One that comes to mind is Starbucks ( SBUX ). SBUX also happens to be one of my holdings, but it can sometimes be very volatile. Last year the stock dropped below $70 and quickly shot up to a price of $115. I can't say I was complaining because I continued to buy, but with STWD you won't get that. And that's what I like about them. Since the start of interest rate hikes in March of last year, STWD has continued to out-earn or meet its dividend in every quarter since, also while growing its BV and revenue.

Diversified Portfolio

As a mortgage REIT, STWD sports one of the most diversified portfolios in the sector. Below are their top 10 largest markets by property type. They also have very good international exposure in the United Kingdom. One thing that stands out to me is their Multifamily concentration in the Southeast (Sun Belt) region at 27%. Over the past few years this region has experienced exponential growth with nine of the nation's 15 fastest growing cities located in the South. This is in comparison to peer Blackstone Mortgage Trust ( BXMT ) who's highest portfolio concentrations are in the states of New York and California at 15% and 12% respectively. These states have seen their populations decline as residents search for cheaper alternatives due to the high living costs of each state. Additionally, STWD also has lower exposure in the office space at 10% compared to 26% for BXMT.

Cautious On The Yield Chase

As a dividend collector and investor, I would often hear and read about high-yielding stocks such as AGNC Investment Corp. ( AGNC ). The stock currently has a yield of almost 15% and is very popular amongst investors here on Seeking Alpha. The stock has roughly 108k followers to almost 38k for STWD. One of the reasons for the popularity disparity is because AGNC pays a monthly dividend versus quarterly. And while collecting a check every month instead of every three is great, all that glitters isn't gold. Several popular analysts here on SA often write about AGNC. I'm not knocking anyone but I want sleep well at night and not have to think about taking a pay cut. My goal is to always grow my income year after year.

Since switching to a monthly paying stock in 2014, AGNC has cut its dividend a total of four times. Once in 2015, once in 2016, once in 2019, and most recently during COVID. But a dividend cut is not all bad. Sometimes it's needed and some companies wait too long trying to avoid it. I get that management wants to hold out and see if they can steer clear, but cutting the dividend also frees up cash. And that cash can then be re-invested back into the business to continue its growth. But I'd rather not have to worry about that from my companies. Imagine working at a job and them telling you that you are going to take a pay cut while they fix their financials. No one is going to accept that, you are going to look for another job. In this case, another company. And while dividend raises are not guaranteed, I try my best to pick growing or stable companies that can at least maintain during economic downturns.

Dividend Shower Not A Grower

One thing investors shouldn't expect from STWD is dividend growth. Since raising the dividend from $0.46 to $0.48 in 2014, the company's dividend growth has been stagnant. But that is to be expected. As previously mentioned, STWD is not going to wow you but they will show you the dividend consistently every quarter. And while dividend growth is great and all, STWD is one of those stocks you hold strictly for the income. And you can use that income to invest in other growing positions inside your portfolio. That was my strategy with the stock when I did hold it. But I sold to focus on other positions I thought would set me up better in retirement. But now that I'm pretty satisfied with my holdings, the mortgage REIT is looking attractive again.

Discount to Book Value

At time of writing Starwood trades at a slight discount to its book value of $20.51 and undepreciated book value of $21.46 making it a buy. As recent as May of this year the stock offered investors more than a 25% discount from BV. Since STWD is more of a bond substitute than a growth stock, I think the current price offers a good entry for investors looking for an income stock to add to their portfolio. Due to the current economic uncertainty, I believe stocks like STWD are often overlooked as people look for safe-haven stocks in other sectors such as consumer staples. STWD continues to show its resilience as REITs have taken a beating. And even then the mortgage REIT's book value has gone sideways and barely depreciated. Some stocks deserve to trade at a premium and this is one of them.

Debt Schedule

During Q2 earnings management reported they had significantly increased their liquidity position with the July issuance of $381 million in convertible notes and commercial and infrastructure loan repayments of $1.3 billion during the quarter. Net of $787 million in fundings across businesses, current liquidity increased to $1.2 billion. The company has $252 million of debt maturities next month and $313 million of maturities in October.

Risks

The company and the sector as a whole have taken a beating. But STWD has continued to show their strength and this is a testament to their management. In times of uncertainty, management is key. The REIT does have 10% exposure to the office sector and the rest of their debt maturities come from office properties in Houston, TX and Washington, D.C. But even with the recent troubles in the office sector, their portfolio occupancy remains strong at 90%. One thing to note also is that most of these properties are Class A properties at 80% in the U.S. and 89% internationally. So although there's still a lot of uncertainty in the office space with a lot of companies adopting the work-from-home and hybrid work schedules, I believe STWD will be just fine.

Conclusion

STWD is a great stock for investors that are looking strictly for income. The REIT has a great management team and has navigated through tough economic times very well. They have continued to show their resilience by growing their book value over time while experiencing quite a bit of volatility. Although not a growth stock, STWD does allow investors to sleep well at night due to its consistency of dividends. And while it may not offer much capital appreciation, analysts currently have a strong buy rating and an average price target of almost $22, and a high of $24. Investors should keep an eye out for any share price weakness and look to add. I like STWD here and rate it currently a buy & a strong buy under $19.

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