KKR Real Estate Finance Trust: Preferred Stock Yield 8.7% (NYSE:KREF)

prologue

KKR Real Estate Financial Trust (NYSE: Clef) only announces its financial results for the third quarter of this year next Monday, so (NYSE:KREF.PA) as a ticker symbol. I understand that rising interest rates in the financial markets will affect his KREF performance, but the preferred dividend payment is fine and the recent drop in the preferred stock price to just $18.60 presents an opportunity. There is a possibility.

Let’s look back on the first semester while waiting for the results of Q3

KREF Bread and Butter invests in structuring and acquiring senior transitional loans backed by commercial real estate. This means that KREF is basically a mortgage REIT that has been hit hard by the recent turmoil.

While this article will focus primarily on preferred stock, it’s clearly important to check out REIT trends to see just how interesting preferred stock can be.

In the second quarter of this year, KREF reported net interest income increased from just under $41 million in the first quarter to approximately $46 million in the second quarter on higher interest income. A little faster paced. In addition, total Other Income decreased from $6.4 million to $4.1 million primarily due to lower investment income.

Operating expenses increased significantly, all due to the allowance for doubtful accounts. As you can see in the image above, KREF recorded $11.8 million in reserves in the second quarter of this year.

The REIT’s total revenues were approximately $25 million, of which $5.3 million was spent on preferred dividends and $300,000 was attributable to owners of “participating securities.” This means earnings showed a net profit attributable to owners of KREF of $19.4M against an EPS of $0.28. Second quarter results were impacted by bad debt reserves, which had an impact of approximately 17 cents per share, resulting in total EPS of $0.75 for the full first quarter. So the quarterly dividend of $0.43 on common stock is not currently included in earnings, but it is still covered after the allowance for loan losses is excluded. That said, distributable earnings (excluding non-cash expenses related to bad debt reserves) are still sufficient to cover current distributions.

Terms of preferred shares issued by KREF

KREF has access to one series of preferred shares issued last April. The company issued Cumulative Preferred Stock at a regular price of $25 and a preferred dividend yield of 6.5%. This means that these securities will pay an annual preferred dividend of $1.625 of $0.40625 in four even quarterly dividends, meaning that the preferred dividend yield will remain unchanged for the life of these securities. . KREF.PA can be invoked at KKR Real Estate Finance Trust from April 2026.

At a current stock price of $18.60, the preferred stock’s dividend yield is 8.74%.

Looking at KREF’s income statement for the second quarter, we can see that the preferred dividend is still well covered. Despite taking over $11 million in loan loss reserves, KREF generated a net income of nearly $25 million. Even if the quarterly loan loss reserves doubled from here, the preferred dividend coverage would exceed 200%.

This will display your balance sheet and determine your asset coverage level.

At the end of June, KREF had about $7.7 billion on its balance sheet, of which $16.8 billion was equity capital. There are 13.11 million preferred shares outstanding, bringing him just under $328 million in total. This means that approximately $1.35 billion of stock on the balance sheet ranks below preferred stock. As of the end of June, asset coverage is over 500%, which is very good.

This does not mean that these preferred shares are risk free. With debt on the balance sheet exceeding his $6 billion and a net debt position of nearly $5.9 billion, KREF’s debt to equity ratio is relatively high. REITs are less concerned as the average LTV ratio for loans is around 67%. While relatively high, this means that $7.47 billion of senior loans on the balance sheet are backed by his over $11 billion in real estate assets. .

That sounds great, but you have to keep in mind that when interest rates go up, so does the capitalization rate used to value the underlying asset. This could lead to lower asset values, higher LTV ratios and the default of some borrowers. It’s heartbreaking to see him on loan at 10% and his LTV ratio he’s over 75%. While I’m sure the KREF team is monitoring developments closely, it’s not hard to see commercial real estate asset valuations take a hit in an environment of rising interest rates.

There is also a small silver lining as higher LIBOR and SOFR rates will boost EPS. An increase of 200 basis points would increase annual earnings by $0.41 per share. Based on its current share count of 69.25 million shares, KREF will generate $28 million in additional annual revenue, which it can use to boost its loan loss reserve buffer.

investment paper

I generally want to get up-to-date financial results before I decide to enter a long stock or preferred stock position, but I would like to take a small (and speculative!) long KREF preferred stock position. I would like to start Depending on what Q3 results are (and if there is any specific guidance for Q4 of this year and/or 2023), I would add to that position or be more May remain on the sidelines to await good visibility. speculative bets.

At this point, we’re only looking at preferred stock, as common stock distributions are very aggressive and loan loss reserves weigh heavily on the bottom line.