There's a huge benefit to diversification, as most investors know well. However, a highly focused company can actually be pretty low risk if it's in the right place at the right time. That's exactly the story with Healthcare Realty Trust (NYSE: HR). But details matter. Here's why this incredibly focused healthcare real estate investment trust (REIT) is a lot less risky than it may first seem.
The big picture
Healthcare in the U.S. is about to see an incredible spike in demand because of the aging of the baby boomers. They are cresting into their retirement years in record numbers and are now starting to need more and more medical care. This general trend should last another couple of decades, with medical needs rising along the way. This is simple demographics and the basic logic for why investors should want to own a healthcare-focused REIT.
There are different ways to get such exposure, however. You can choose a REIT, like Ventas, which is diversified across multiple healthcare sectors, or you can focus on a landlord that specializes in just one healthcare niche. For example, Omega Healthcare owns senior housing, with a huge focus on nursing homes, only that sector has been relatively weak due to the coronavirus pandemic's impact.
On the other hand, Healthcare Realty Trust owns medical office properties, an area that has been performing particularly well despite the pandemic.
To put some numbers on that, Healthcare Realty Trust collected 99% of the rents it was owed in 2020, normalized funds from operations increased 2.9% for the year, and the REIT had a roughly 85% retention rate. It was a solid year even in the face of a global health scare and despite a highly concentrated portfolio.
The details matter. Here are some key reasons why Healthcare Realty Trust's focus is more of a benefit than a detractor.
Owning offices is a pretty mundane business, but this niche is vital in the healthcare arena because medical services are largely performed in person. Sure, some things can be done over the internet via a video conference, but a great many medical problems have to be addressed in person. That's not likely to change anytime soon, given the highly personal nature of medical care.
It is also often cheaper to do certain medical procedures on an outpatient basis than in a hospital. That means more office visits and less hospitalization. This trend is likely to accelerate while the country looks for ways to contain mounting medical costs as the baby boomers age.
Yes, performing more care remotely (via telemedicine) will be an industry focus. Still, the size of the baby boomer generation will likely more than offset that trend, leaving a growing reliance on the outpatient/office combination as the best and lowest-cost alternative.
That said, medical offices and hospitals have a symbiotic relationship. Doctors like to be near the hospitals with which they are affiliated. Roughly 63% of Healthcare Realty's portfolio is what's known as on-campus, meaning the properties are literally right next to the hospital.
Another 23% or so is adjacent to a hospital, which means they are in the same general area but not on the hospital's campus. That means 86% of the REIT's properties are in an advantaged position. On top of that, 97% of Healthcare Realty's properties are in the country's top 100 largest and most affluent regions. In other words, it has a very well-positioned portfolio.
Run out and buy it?
So far, Healthcare Realty Trust looks like a very well-positioned niche REIT. However, there are some things to keep in mind. The strength of the medical office sector is not a secret, so pricing is an issue to watch, given that paying too much for a good asset can turn it into a bad investment.
Healthcare Realty's 4% dividend yield, for example, is at the low end of its historical range, suggesting that investors are pricing in a lot of good news here. On the positive side, that gives it access to low-cost equity capital to invest in new properties. But if those offices are priced at a premium, the benefit is kind of muted.
Meanwhile, while the dividend was just increased, the hike was very small -- amounting to only a penny per share per year. Prior to this less-than-1% increase, the dividend was stuck in neutral for several years.
The Millionacres bottom line
So, despite being in a very good sector, Healthcare Realty hasn't really been rewarding investors as it has successfully grown its business. All in, Healthcare Realty looks like a pretty safe REIT, but perhaps not a great choice for dividend investors. If the 4% yield is enough to satisfy you, then it's worth a look. However, until dividend growth picks up a bit more, most investors will probably want to watch from the sidelines.