You’ve heard this argument before: With over 10,000 baby boomers turning 65 every day, demand for medical care is set to skyrocket. So, the closest thing to a “risk-free” investment you’re going to find is healthcare stock.
On the surface, it makes sense. It’s a lot easier to project demand for healthcare than, say, iPhones or Cadillacs, and the demographic trends are certainly in your favor. I can safely say that demand for medical services will increase every year for the foreseeable future.
There’s just one big problem.
All the demographic tailwinds in the world won’t make a bit of difference if your profits get regulated away by the government, and healthcare stocks are particularly at risk of that.
Vulnerability in Healthcare Stocks
Sure, “Obamacare” has allowed plenty of previously uninsured Americans to get access to reasonably affordable healthcare. That was a major boon to health insurance stocks like Aetna (AET) and UnitedHealth (UNH), both of which are up more than 70% over the past two years. Big Pharma stocks have had a great run as well.
But remember, Medicare is the primary payer for most Americans ages 65 and older. And Medicare can — and does — pick and choose what it wants to pay for and how much it wants to pay. That can throw a really big wrench into your business plans.
As a case in point, consider home nursing provider Almost Family (AFAM), a stock I have traded in the past. Almost Family gets about 90% of its revenues from Medicare, and the healthcare reforms that went into effect during President Barack Obama’s first term were so damaging to the company’s business that they dedicated an entire webpage to it. For years, AFAM’s stock price surged or crashed based on news (or even rumors) of policy changes by Medicare.
Not all healthcare stocks are that dependent on Medicare, of course. But to some extent or another, nearly every stock in the sector faces pretty stiff risks from either excessive regulation or repayment uncertainty.
I don’t know about you, but I don’t want my investment returns held at the mercy of the U.S. government.
Playing It Safe in Healthcare REITs
The good news is that there are plenty of ways to play the boom in the healthcare sector while almost entirely avoiding these risks. And one of my favorites is via healthcare real estate investment trusts.
Health services require specialized facilities, so the aging of America will give us a raging bull market in medical real estate. A doctor may have his take-home pay pinched by higher taxes and stingier reimbursement, but he’s still going to pay his rent, and we can profit by acting as the landlord.
One of the bluest of blue chips in the healthcare REIT space is Ventas (VTR). Ventas just dumped most of its Medicare reimbursement risk with the recent spinoff of its skilled nursing facilities to Care Capital Properties (CCP). Ventas’ portfolio is now concentrated in private-pay senior housing, medical office buildings and specialty hospitals.
Ventas has grown its dividend at a compound annual rate of 7.45% over the past 10 years, and at current prices, it sports a yield of 5.2%. If Ventas is able to keep up that blistering dividend growth rate, you’d be looking at a yield on cost of more than 7% in five years.
Not too shabby.
As another example, take Senior Housing Properties Trust (SNH). Senior Housing has really worked hard to divest itself of properties with Medicare reimbursement risk, and today the bulk of its portfolio is in medical office buildings and independent-living/assisted-living facilities. Only about 3% of the portfolio is invested in nursing homes.
Senior Housing has been slower to raise its dividend in recent years, as it has paid out 39 cents per quarter for the past three years. But at today’s prices, you’re still getting a 9.8% yield. Even if Federal Reserve Chairwoman Janet Yellen does an abrupt about-face and decides to raise rates aggressively, that’s a competitive payout.
And finally, we get to Healthcare REIT (HCN), one of the largest healthcare REITs by market cap.
HCN gets the vast majority of its revenues from senior housing and skilled nursing facilities. But Healthcare REIT also proudly discloses that fully 87% of its portfolio is leased to private-pay clients.
HCN currently yields 4.9%, and this healthcare REIT has raised its dividend at a comfortable 3.08% rate over the past five years.
Charles Lewis Sizemore, CFA, is the chief investment officer of investment firm Sizemore Capital Management. Click here to receive his FREE weekly e-letter covering top market insights, trends, and the best stocks and ETFs to profit from today’s best global value plays. As of this writing, he was long Ventas and Senior Housing Properties Trust.
