This mortgage REIT’s dividend just took a 29% haircut, can it bounce back?

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Mortgage real estate investment trusts (mREITs) tend to have some of the highest yields in the REIT space, often making them attractive to investors. However, they are also volatile, and a big dividend today can be lost tomorrow. One mREIT, Apollo Commercial Real Estate Finance, Inc. (NYSE:ARI), just announced a 29% cut to its dividend, prompting many investors to wonder what’s behind the cut and whether it can make a comeback.

Apollo Commercial Real Estate Finance focuses on the origination, investment and management of commercial mortgage loans and subordinated financings in the US and Europe. As part of the wider Apollo Global Management family, ARI benefits from a well-established platform with a strong presence in real estate finance.

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As a REIT, ARI must distribute at least 90% of its taxable income to shareholders, resulting in generous dividend payments. Over the past few years, ARI has consistently delivered returns well above the market average, making it an attractive option for those looking for regular income from their investments. It had a dividend yield of 13.7% with a quarterly dividend of $0.35, which has now been reduced to $0.25.

In a press release, the company said the Board of Directors’ decision to reduce the dividend was due to an impact on operating earnings from ARI’s focus loans and anticipated declines in variable reference interest rates. While the latter situation is likely ongoing, the company expects the focus loan situation to diminish over time. “As ARI’s focused loans are resolved, the company should benefit from Apollo’s active network of new variable rate loan opportunities and the ability to redeploy capital into investments with increased operating earnings potential,” said Stuart Rothstein, Executive Director and President of ARI.

The term “focused loans” refers to loans that are troubled. Part of the issue at hand is Steward Health Care’s bankruptcy, which also affects Medical Properties Trust (NYSE:MPW), which recently announced a dividend cut. In March 2022, ARI and other Apollo managed entities co-originated a 55% at cost first mortgage loan secured by eight Massachusetts hospitals. The loan was made in connection with the capitalization of a joint venture between two parties to own the hospitals. That joint venture leased the properties to Steward Health Care, which is selling its assets.

The story continues

At the end of the second quarter, ARI had a total loan portfolio of $8.3 billion across 50 loans, with a total unlevered yield of 8.9%. Most were variable rate primary mortgages, primarily in the hotel, retail, office and residential categories. Most of the loans originated in 2021 and 2022, and as of the second quarter, 9% were non-performing loans.

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The company committed $505 million in new loans year-to-date and had $759 million in loan repayments, including $583 million in Q2. After the quarter ended, ARI reported receiving $464 million in loan proceeds, including $421 million in full repayments of three primary mortgages and one subordinated loan.

When might the clouds part?

On the latest analyst call, Rothstein was candid about the problems facing ARI, saying it may take some time to deal with troubled loans. “It’s really a matter of getting to the things that are on our focus list while at the same time making sure we’re doing a good job of getting capital back to us redistributed into deals is what we are delighted. about.”

Losing a big chunk of a dividend is never easy for fixed income investors. Stock market performance has also been disappointing in recent years. It’s down nearly 20% year-to-date and has lost half its value over the past five years. Analysts rated it a consensus “Sell”, reflecting concerns about ARI’s ability to generate near-term value. Analyst BTIG, who recently initiated coverage on the stock, sent a note saying the new dividend is considered reasonable to be covered by ARI.

If ARI can right the ship and address its non-performing loan issues, there is potential for the dividend to rebound. Given the level of suffering, that could take several years. Investors who are risk averse or prefer more stable income streams may want to consider other investment options that are less exposed to the commercial real estate cycle and interest rate fluctuations.

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