iStar Financial (NYSE:SFI) was one of the original selections in our Income Investor service, and with its beefy 7.8% yield, the selection has just about matched the market's return over the past two years. Of course, our aim is to do better than the market, and looking at the second-quarter earnings released by iStar last week, I see reason to be optimistic about the longer term.
The company operates as a hybrid REIT with a mix of operating assets that it leases out and mortgage loan products that it provides (not to be confused with a mortgage REIT). For the quarter, total revenues increased by 13.5%, with interest income increasing by 27.6% and operating lease income increasing 8.7%. This performance drove the company's income from continuing operations up 13.5%. That's slightly below the 23% gain the company saw in the first quarter, but still impressive.
The company's balance sheet also remains healthy, with non-performing assets declining nine basis points year to date, to 0.32% of total assets. Its portfolio also appears healthy. The company's reserve for loan losses remained essentially flat with last year, at 0.54%, but remains well above non-performing assets. One disappointment is that the company's net finance margin (the difference between yield on its loans and the cost of its debt) declined slightly to 3.38% from 3.59% last quarter.
Along with the risk of loans defaulting, rising interest rates are a concern for a company like iStar, because it can get squeezed on its cost of financing and is potentially unable to raise the rates it charges customers as quickly. The other risk from rising rates is that customers with the financial wherewithal to do so repay their loans in advance. Although not directly comparable, these risks are similar to those faced by other REITs such as American Mortgage Acceptance (NYSE:AMC), Redwood Trust (NYSE:RWT), and Thornburg Mortgage (NYSE:TMA).
With the potential for further rate hikes still a possibility, iStar may get squeezed a bit more on its margins. However, the company estimates that a 1% increase in rates would only have decreased earnings by 0.13%. Considering that we are probably closer to the end of the rate-hike cycle and the strength of the company's business, I think it makes sense to start paying closer attention to businesses like iStar. If you haven't researched the company previously, you may want to start now.
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At the time of publication, Nathan Parmelee had no interest in any of the companies mentioned. The Motley Fool has an ironclad disclosure policy.
