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Mortgage REIT's longer-term future might be as a bank

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Mortgage REIT's longer-term future might be as a bank

It might have amounted to little more than idle chatter during the question-and-answer session of an hourslong investor day, but an idea volunteered by Starwood Property Trust Inc.'s Barry Sternlicht could bear watching in the years to come.

"Maybe," the chairman and CEO of a company best known as a commercial mortgage REIT said during the Dec. 14 event, "we'll be a bank someday."

Starwood Property Trust has operated as a REIT since going public in 2009, meaning it is generally not subject to U.S. federal corporate income tax for the portion of its net income distributed to shareholders so long as it distributes at least 90% of its taxable income.

The company has expanded and diversified considerably since then, going beyond its initial focus on originating floating-rate commercial mortgages to add capabilities in residential and infrastructure lending, commercial mortgage-backed securities origination, investing and special servicing, and investments in real estate-owned assets. It has grown to $15.9 billion in assets from $1.1 billion over the past nine years in its current structure.

To the extent the company did decide to become a bank instead of a mortgage REIT, it would not be blazing a trail.

The thrift holding company that most people recall as IndyMac Bancorp Inc. began its existence in the 1980s as a residential mortgage REIT co-founded by Angelo Mozilo and originally known as Countrywide Mortgage Investments Inc. A subsidiary of Mozilo's other company, Countrywide Credit Industries, managed the REIT until 1997.

IndyMac Mortgage Holdings Inc. agreed in 1999 to acquire SGV Bancorp Inc. as part of a broader plan to convert to a full-service financial institution and secure a more stable source of funds in the aftermath of Russian financial crisis-fueled capital markets turmoil. The shift also sought to address what IndyMac perceived as weaknesses in its REIT structure, including the need to consistently issue new common stock to fund growth, limitations on the number of investors interested in the company, and the lack of an acquisition premium embedded into its stock price given the structure's perceived complexity.

A desire to obtain a stable funding source outside of the capital markets against the backdrop of the global financial crisis contributed to another mortgage REIT's shift into a banking structure.

The precise mechanics of CapitalSource Inc.'s transition differed from IndyMac's as it included the termination of an agreement to acquire a bank, the purchase of certain assets and liabilities of another depository, and the formation of a de novo industrial bank. A finance company focused on asset-based, corporate and commercial real estate loans, CapitalSource revoked its REIT status at the end of 2008 as part of an effort to simplify its business and shift its commercial loan origination operations into the bank. While CapitalSource applied to become a bank holding company, its request had not yet been approved when it agreed in July 2013 to sell to PacWest Bancorp.

Starwood Property Trust officials highlighted the mortgage REIT's funding structure during the investor day, characterizing it as stable and diverse. The company's $10.73 billion in debt consisted of $8.67 billion in secured debt, including a mix of revolving, nonrevolving and mortgage funding. It maintained $2.06 billion in unsecured debt. Approximately $3.89 billion of its debt is not subject to margin calls. Sternlicht observed that the mortgage REIT has been "pretty disciplined" about issuing equity, last doing so in a December 2016 follow-on deal.

The CEO bemoaned Starwood Property Trust's stock price during a November earnings conference call, and management intended the investor day as a way to help Wall Street gain a better understanding of what they conceded is a very complex, difficult-to-understand company. There was no indication, however, that Sternlicht had drawn a conclusion similar to the one IndyMac reached about two decades earlier: that a conversion to a bank from a REIT would broaden the prospective investor base and help drive a higher valuation.

Sternlicht admitted that becoming a bank "would be weird because we [would] pay taxes." But, he added, "New tax rates on corporations are not that bad." He did not directly address an investor day attendee's follow-up question about whether Starwood Property Trust might make such a transition through the purchase of a brick-and-mortar bank as he opted to focus on another part of the query dealing more broadly with the types of businesses he had looked at buying.

In any event, he said no structural change of the sort is on the table but rather something that "will come up" during the next five years.

"I'm sure we'll look at it at some point," he said.