What happened

Shares of Welltower, Inc. (WELL 0.33%) declined by roughly 12% in February according to data from S&P Global Market Intelligence. That fall corresponded with the declines in the S&P 500 Index that led the index to an 8% monthly loss. However, this healthcare real estate investment trust (REIT) was hardly alone. Its most direct peers, Ventas, Inc. (VTR -0.45%) and Healthpeak Properties, Inc. (PEAK 1.21%), also suffered low-double-digit drops. All of this was related to coronavirus concerns, but there's an additional effect for these REITs that investors need to understand.

So what

The coronavirus started to gain attention at the start of the year. The coronavirus is part of a family of viruses known to cause the common cold as well as more severe diseases such as SARS, MERS, and, most recently, COVID-19. Some outlets report that the death rate of COVID-19 is notably higher than that of the common flu. Older adults and those with preexisting medical conditions also appear to be most at risk of death.   

A young woman in a medical coat comforting an older woman sitting down

Image source: Getty Images.

This is largely bad news for diversified healthcare REITs like Welltower, Ventas, and Healthpeak. On one hand, increased demand for medical care sounds like good news. More doctors offices and hospital visits means the customers of healthcare REITs get more business. And increased research spending to find a way to fight COVID-19 would help push more cash into the medical research facilities these REITs own, too. But there's one more side to these portfolios that could get hit particularly hard if there's a major U.S. outbreak.

Roughly two-thirds of Welltower's net operating income comes from senior housing assets. Of that total, nearly 70% is tied to senior housing that it owns and operates (called a senior housing operated portfolio, or SHOP, in industry lingo). In reality, it hires other companies to run the actual facilities, but it ends up sharing in the performance of the assets and not just collecting rent. So, good periods mean higher earnings and bad periods mean lower earnings. Ventas and Healthpeak have similar exposure to senior housing (53% and 34% of net operating income, respectively) and large SHOP exposure.   

The residents in these facilities are at the highest risk of COVID-19-related death. The flu season can already impact occupancy in senior housing, so if the coronavirus ends up being an even bigger threat, these REITs face a notable headwind. A big outbreak in the United States would likely result in higher costs in their SHOP portfolios to keep facilities virus-free. Plus, it may ultimately affect occupancy. This, in turn, would make it harder for lessees to cover their rent costs and, at the same time, reduce earnings in the SHOP assets these REITs own. On top of that, there's already a glut of supply in the senior housing space, so lower occupancy would exacerbate the situation and likely result in the need to lower rents to attract new residents. 

Now what

COVID-19 isn't likely to result in Welltower, Ventas, or Healthpeak going out of business. They are all financially strong REITs with diversified businesses. That said, a major coronavirus outbreak in the United States would be a big headwind. Expect the uncertainty surrounding the new virus to continue impacting Welltower and its peers until there is far more clarity.