Healthcare stocks (XLV) have gained 14.5% over the last year, thereby keeping pace with the overall market as measured by the S&P 500 (SPY) which gained 15.0% over the same time period. However, there are a variety of reasons why healthcare REITs have significantly underperformed, many of them delivering negative returns, as shown in the following table.
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One reason investors have spurned healthcare REITs has to do with uncertainty surrounding many of their troubled operator tenants dealing with intense medical expense reimbursement pressures basically putting them in dire straits in some cases (for example, publicly traded operator tenants like Brookdale (BKD) and Genesis (GEN) have experience dramatic stock price declines and consistent negative net income, while other operator tenants are filing for bankruptcy such as Adeptus (ADPQ)).
Another reason healthcare REITs have underperformed is because they are REITs, a sector that has been out of favor since the post-election “Trump Rally,” and as fears of rising interest rate expectations are presumed to soon wreak increasing havoc on REITs because they rely heavily on borrowing to fund growth (as interest rates increase, the cost of borrowing increases).
With that backdrop in mind, and considering we are contrarian income-focused investors, we decided to highlight a few healthcare REIT opportunities that may be worth considering within the constructs of a diversified investment portfolio.
5. Medical Properties Trust (MPW), Yield: 7.2%
Medical Properties Trust provides capital to hospitals and other acute care facilities. It has basically carved a unique niche for itself in the healthcare REIT space by allowing hospitals to tap into the value of their real estate so they can focus on what they do best (providing healthcare). MPW essentially bridges the gap between the growing demand for high-quality healthcare (this is a positive demographic theme we’ll cover more later) and the need to deliver it in an increasingly efficient and cost-effective manner (this is another theme we cover—the increasing pressure on healthcare reimbursement rates).
If you are a contrarian income-focused investor, there is lots to like about Medical Properties Trust. For starters, it offers an attractive 7.2% dividend yield, and its share price has declined (contrarians like this). Also, the dividend is well covered and the company’s valuation is very low considering the stock trades at only 9.9 times its 2017 Normalized Funds from Operations (“FFO”) guidance of $1.29 to $1.31 per share. Regarding dividend safety, the payout ratio is only 71.5% ($0.96/$1.30). The company is also attractive because of the growing demographic need for healthcare that we mentioned above (and we’ll cover in more detail later). And as MPW’s CEO (Ed Aldag) put it during their most recent earnings conference call:
“As many of you have heard me say many times, you cannot imagine in our lifetime any developed country without hospitals. We are confident that we have some of the world’s very best operators.”
Basically, MPW has a high degree of confidence in the business it is in.
However, MPW faces a variety of risks that investors should consider. For starters, healthcare laws are subject to change, and this could negatively impact MPW. During the most recent earnings conference call, CEO Ed Aldag explained:
“We have all watched in frustration, the inability of Congress to bring certainly the healthcare issues, our basic investment thesis at MPT has not changed. There are three things that we’re absolutely sure of. Reimbursement will change and reimbursement in some form will always be here and hospitals are not going away.”
The possibility of healthcare law changes is a big risk factor facing MPW, and it’s part of the reason the current short interest on this stock is 7.16%.
Another risk facing MPW is its operators. Not only are MPW’s operators concentrated as shown in the following table, but they are also at risk.
MPW’s operators are at risk because of challenging financial conditions. For example, Adeptus (which represents just under 7% of MPW’s rent) has filed for bankruptcy. For the time being, all of the Adeptus properties continue to make rent payments, however approximately 13 facilities will later be severed from the master leases and MPW will either sell or release them to other operators. This is a significant risk. And this risk is not just related to Adeptus. Other operators are facing challenges. Steward and Prime (see our portfolio table above) are also facing risks. For example, Steward, which is owned by Cerberus Capital Management, plans to merge with IASIS Healthcare to become the US’s largest private for-profit hospital operator. These types of transactions can create challenges. Also Prime (another large tenant) has experienced lower than expected cash collections, primarily at six hospitals, and this will result in undesirable write-offs of 6% to 7% of revenues.
Another way to gauge MPW’s risks is its S&P BB+, non-investment-grade, credit rating. This is the highest non-investment-grade credit rating, and it is also the lowest credit rating of our top 5 healthcare REITs included in this report. This rating gives readers an indication of MPW’s relative risks.
Overall, if you are an income-focused investor, and you can get comfortable with the risks (i.e. if you believe MPW’s hospitals will continue to be in demand like CEO Ed Aldag believes) then this REIT is worth considering, especially considering its near dirt-cheap valuation, and it’s attractive well-covered dividend yield.
4. Welltower (HCN), Yield: 4.7%
Welltower is an attractive, highly-conservative, blue-chip healthcare REIT that focuses mainly on Senior Housing. There is a lot to like about this company including its attractive dividend coverage ratio, its healthy price to FFO ratio, its investment grade credit rating, its performance over the last year (assuming you are a contrarian), the huge demographic tailwinds on its side, and of course its big 4.7% dividend yield. For your reference, we recently wrote in detail about Welltower in this report: Welltower Report (Yield: 4.7%).
And if you’re looking for safe dividend yield from a healthcare REIT, Welltower is absolutely worth considering.
3. Ventas (VTR), Yield: 4.5%
Very similar to Welltower, Ventas is another attractive, conservative, blue-chip healthcare REIT focusing on Senior Housing. We like Ventas for many of the same reasons as Welltower (e.g. powerful demographics, safe dividend yield, price appreciation potential), but we also list 10 specific reasons why we like Ventas even more than Welltower in this report:
We don’t currently own shares of Ventas (we own a different healthcare REIT, more on this