Bargain hunting for health care REITS

  @FortuneMagazine December 5, 2013: 7:41 AM ET
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(Fortune)

As the tumultuous rollout of the Affordable Care Act continues, real estate investment trusts specializing in health care properties are likewise taking investors on a turbulent ride. Health care REITs -- which own and lease hospitals, medical office buildings, senior housing, and nursing facilities -- first took a hit back in the spring, when rising interest rates and fears that the Federal Reserve would taper its massive bond-buying program caused higher-yielding investments to sell off. And the new uncertainty over the future of Obamacare has only added to the downward pressure. The program is expected to greatly increase demand for health-related real estate, so any sign that it may be in trouble sends the sector tumbling.

While the S&P 500 index has surged by more than 25% so far in 2013, the total return (including dividends) for the country's largest health care REITs is -4% so far this year, according to S&P Capital IQ. But many industry experts now believe the selloff is overdone and bargains are to be had. RBC Capital Markets analyst Michael Carroll points out that health care REITs are trading at valuations well below the historical average. And since REITs are required by law to distribute at least 90% of their annual taxable income as dividends to shareholders, investors are being offered some hefty yields.

Particularly attractive are REITs that can thrive regardless of what lawmakers in Washington ultimately do. Ventas (VTR), one of the largest providers of senior housing in the U.S., is poised to benefit from the massive wave of retiring baby boomers. About 84% of the company's revenues derive from private-pay, nongovernment sources -- buffering it from the uncertainty related to programs like Medicare and Medicaid. Bank of America Merrill Lynch analyst Jeffrey Spector thinks the shares could rise by 25% over the next 12 months. He also expects its 4.7% dividend yield to increase.

The literally named Health Care REIT (HCN), also a major player in senior housing, has been shifting more of its business to sharing in the profits (or losses) of the underlying operations associated with its properties, as opposed to simply collecting rent from the operators. The shift is the primary reason that the company's recent third-quarter earnings results topped expectations, says Barclays analyst Joshua Raskin, who has an overweight rating on the shares, which he believes could rise in price by 25% in 2014. Health Care REIT offers a dividend yield of 5.4%.

Healthcare Trust of America (HTA) specializes in owning medical office buildings in highly desirable locations. About 96% of its properties are on hospital campuses or nearby. Todd Stender, an analyst with Wells Fargo, says the strategy pays off in the form of higher rents and superior tenant retention rates compared with those of competitors with properties in remoter locations. Stender, who has an outperform rating on the stock, sees about 15% upside from the current share price in 2014, on top of a hefty 5.6% dividend yield. That's a prescription for healthy investor returns.

A former compensation consultant, Janice Revell has been writing about personal finance since 2000.

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This story is from the December 23, 2013 issue of Fortune. To top of page



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