Description

I am recommending the mortgage REIT NexPoint real estate finance (ticker is NREF) which IPOed on 2/7/2020 by selling 5 million shares at $19.00/share.  NexPoint is trading at $17.12 per share vs. it’s current book value of $18.48.  Currently, the dividend is $0.40 a share quarterly or $1.60 annualized and the stock is trading at a dividend yield of ~9.3%. 

Insiders own ~8.6% of the Company.

My 1 year price target is $20.00 a share which if achieved would represent a stock price increase of ~17% and a yield on cost of >~9% or a total return of >25%. 

My price target of $20 per share is derived based on a payout ratio of 95-100% of annualized core earnings of at least $2.00 (based on 4Q2020 earnings guidance of $0.51 per share) and a dividend yield of ~10%.

Company overview

NexPoint’s debt investments target multifamily, single-family rental, and to a much lesser extent self storage.  The Company targets lending or investing in properties that are stabilized or have a light transitional business plan.

NREF is externally managed by NexPoint Real Estate Advisors, an affiliate of NexPoint Advisors, an SEC registered investment advisor with extensive real estate and fixed income experience.  NexPoint Advisors is in turn externally managed by Highland Capital Management which is a multibillion-dollar global alternative investment platform that is the external advisor to publicly traded NXRT and NHF. 

3Q 2020 Earnings Call Key Points

Financial:

Core earnings of $2.3 mm or $0.42 per diluted common share; versus $0.37 per diluted common share in 2Q.  Book value per common share increased to $18.48 Paid a 3Q 2020 dividend of $0.40 per common share on 09/30/20.  Announced a 4Q 2020 dividend of $0.40 per common share to be paid on December 31, 2020.  4Q estimated core earnings per diluted common share was projected to be $0.51 at the mid-point, an estimated increase of 21.4% over 3Q 2020 reported core earnings of $0.42 per share.  Estimated 4Q core earnings dividend coverage ratio of 1.28x.

Portfolio:

Outstanding total portfolio of $1.46 billion, comprised of 62 investments.  SFR and multifamily represented ~97% of the portfolio, with the remainder comprising self-storage.  Weighed average LTV and debt service coverage rato on NREF’s SFR, CMBS, CMBS IO strips and preferred and mezz investments are ~68% and 1.91x.  On 07/30/20, NREF purchased a fixed rate Freddie Mac K-Series multifamily B-Piece (meaning subordinate tranche) with a current yield of LIBOR + 900.  On October 20, 2020, NREF purchased a portfolio of 18 mezzanine loans, collateralized by apartment properties, for $99.9 mm with an estimated IRR of 17.3%.  As of 10/23/20, there were no loans in forbearance in NREF’s portfolio.

Capitalization:

As of 09/30/20, NREF’s debt to book value ratio was 2.43x.  The Company’s secured senior credit facility, of $786.9 mm, was term matched with the duration of the underlying SFR loans, with a weighted average term of 7.6 years as of 09/30/20.  On July 24, 2020 NREF closed a 8.5% Series A preferred stock offering netting the company $46 mm of cash to deploy in accretive new investments.  On 10/15/20, NREF issued $36.5 mm in senior unsecured notes with an interest rate of 7.5%.  As of 10/28/20, NREF had purchased 236,597 shares of its common stock through the Company’s share repurchase program at an average price of $14.72, representing an average discount to 3Q book value of 20.3%.

Portfolio Characteristics

The current portfolio consists of senior loans, mezzanine debt, and preferred equity investments in short duration lease term residential or residential related assets (multifamily, SFR, and to a much lesser extent self-storage).  The portfolio has no exposure to construction loans, heavy transitional loans, or land loans.  As of October 28, 2020 there are no loans currently in forbearance.  NREF’s portfolio as a while has 8.0 years on average of remaining term, a 1.9x weighted average debt service coverage ratio, and a weighted average LTV of 68.2%.  The majority of the portfolio is located in the Southeast and Southwest and the majority of it is invested in first mortgages and CMBS b-pieces.

Discussion Points

The Company’s debt investments are overwhelmingly focused on multifamily and single family rental which are defensive property types and rental collections have remained strong throughout the COVID-19 pandemic.  The company’s multifamily investments are focused on workforce housing in the Southeast and Southwest.  Multifamily investments outside of central business district gateway markets (characteristic of the Company’s portfolio) has been especially resilient.

The Company’s average remaining term is eight years, which is atypical in the mortgage REIT space.  The key here is that the Company has significant duration in its portfolio which should prove valuable if we see yield compression coming out of the pandemic induced recession as we have already begun to see and which I expect to substantially increase further (yield compression). 

100% of the Company’s investments are current (not in forbearance). 

Freddie Mac B-Piece pricing has tightened substantially since the Company’s purchases which would imply health imbedded market to market gains in the Company’s recent B-piece purchases.  That said, spreads on these purchases (as of October 2020) were still approximately 300 bps wider than pre-COVID new issue pricing.

NREF has outstanding a >$500 mm UPB loan to Front Yard Residential which recently was sold to Ares and Pretium/Progress Residential.  The acquisition of Front Yard is a huge credit positive for the Company’s loan investment given the much higher credit quality of the acquiror.  The loan is highly unlikely to be rapid given the call protection in the loan which would require the acquiror pay $160 mm in defeasance costs or ~30% of the loans UPB.

Relative Value Comparisons vs. Other Mortgage REITs

No loans are in forbearance at NREF whereas many mortgage REITs are working out credit issues in their portfolios.  The Company has publicly implied they will pay out 95% of core earnings and with core earnings scheduled to increase to $0.51 in the 4^th quarter that would imply a substantial dividend increase is likely when the first quarter 2021 dividend is announced.  The Company has talked about issuing additional unsecured notes and or preferred stock (as opposed to equity as long as the stock is trading below book) as a way to deploy accretively.

Catalyst

The stock price should increase as the dividend is increased.