KKR Real Estate Finance Trust (KREF), a commercial mortgage REIT, is encountering difficulties due to its office loan exposures. Recent financial filings have raised concerns about dividend safety and future performance.

KREF owns a diverse portfolio of $8 billion in loans secured by multifamily, office, industrial, life science, and hospitality properties. It employs a mix of credit facilities and leverage to finance its portfolio.

KREF generated $33 million in distributable earnings in Q1 2023, covering its $30 million dividend payment. However, a $60 million charge was taken for anticipated future credit losses primarily tied to office loans, impacting dividend coverage.

KREF’s office loans, made pre-pandemic and during a time of higher confidence in office space, face weakening demand due to flexible work arrangements. Two additional office loans were added to the watch list, indicating potential losses upon maturity.

The credit outlook for office loans, combined with potential losses ranging from 10% to 30%, makes the potential for cutting the dividend high.

Resolving the challenges related to office loans may take years, affecting liquidity and valuations in the office real estate market. Income investors concerned about KREF’s office exposure may consider alternative options such as business development companies with more favorable risk profiles.

For these reasons I’m selling my position in KREF and increasing my position in ARCC. I believe ARCC to be in a better position to continue paying dividends with currently over a 10% yield.