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About to Buy a Penny Stock? Look at These 3 Companies First

By Reuben Gregg Brewer - Apr 29, 2021 at 7:02AM

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Penny stocks are a high-risk, high-reward venture that most should avoid. But if the idea excites you, perhaps you'd like these companies instead.

Penny stocks are generally tiny companies or formerly prominent names that have fallen on very hard times. Either way, investors are basically hoping that buying the stocks when they are in the dollar-or-less range will lead to big returns down the line when (or if) business improves.

The only problem is that these businesses don't always survive and thrive, so it's a high-stakes gamble on the future. Often it's best not to bother. Instead, here's a trio of dividend-paying stocks that are positioned to benefit from a fundamental shift in society that is basically locked in place. And, thanks to the pandemic in 2020, investors are sour on the stocks at the moment. In other words, they offer a potentially high-reward -- but perhaps not so high-risk -- opportunity.

1. Diversified giant

Ventas (VTR 2.55%) is one of a small number of large and diversified healthcare real estate investment trusts (REITs). Its business spans across senior housing, medical office buildings, medical research facilities, and hospitals. The company suffered a big blow in 2020, as the coronavirus pandemic hit older adults particularly hard. In fact, Ventas was forced to cut its dividend by a painful 43%. That's the bad news. 

A hand lifting up cards on a poker table filled with chips.

Image source: Getty Images.

The good news is that vaccines appear to have helped stabilize the REIT's business, with leads and move-ins on the upswing again in the company's senior housing operations. This suggests that better times are ahead.

But that's the near-term picture. The long-term view here is even brighter thanks to the aging of the baby boom generation. In fact, the senior population is expected to be the fastest-growing age group for many years to come, and older people simply require more medical care. That's a big tailwind for Ventas (and many others), which will see the benefit across multiple aspects of its business. 

The one caveat here is that Ventas has a sizable senior housing operated portfolio, or SHOP in industry lingo. This means that it owns the buildings and also runs them (though in practice it hires others to handle the day-to-day operations). This is a big deal, because the performance of the underlying properties flows right through to Ventas. That's terrible when things are bad (like in 2020), but can lead to outsize profits when things are good. So right now, the company is feeling the downside of its SHOP business, but demographics suggest that it will, eventually, see a very bright upside. You also get to collect a 3.3% yield while you wait for the upturn here. 

2. Slimmed down

Next up is Healthpeak (PEAK 2.59%), which at one time would have been categorized with Ventas as a diversified healthcare REIT. But it is changing its stripes and shifting out of the senior housing space so it can focus on its medical office and research assets. These properties will benefit from the demographic changes taking shape as well -- but there's another reason to like them. 

In 2020 Healthpeak's senior housing operated properties saw net operating income (NOI) fall a huge 27.5%. And while the net-lease senior housing business grew NOI, the REIT's tenants there were facing material headwinds, and rent collection was at least a bit of a concern for investors. However, the medical office space grew NOI 2.2%, with medical research growing NOI a huge 6.2%. With acquisitions and developments plans in both spaces, Healthpeak is basically looking to double down on what has been one of the strongest niches in the healthcare property market. 

The move out of senior housing led to a roughly-20% dividend cut, but investors should probably expect dividend growth to resume shortly. It is likely that 2021 will be something of a transition year, but you get to collect a 3.5% dividend yield while you wait for the refocused business to start showing what it can do. 

3. Totally focused

The last company here is moving in the exact opposite direction. Omega Healthcare Investors (OHI 2.13%) is completely focused on senior housing assets. In fact, a huge 83% of its net operating income comes from nursing homes. Traditionally nursing homes have been considered one of the riskier options in the senior housing space, because third parties like Medicare and Medicaid (nearly 90% of the mix for Omega) are usually the payers, not the actual customers. That introduces a political component, since the government can and does adjust payment rates. That said, in 2020 there was little doubt that Uncle Sam would keep paying, and Omega's business actually held up pretty well. 

VTR Chart

VTR data by YCharts

That said, the big number here is the fat 7% dividend yield, which is where a good portion of the return investors see will come from over time. Omega, despite the headwinds, didn't have to cut its dividend. In fact, 2020 added another year to the company's streak of annual dividend growth, which is now at 18 years. And with an adjusted funds from operations (this metric is similar to earnings for an industrial company) payout ratio of roughly 83% in the fourth quarter of 2020, that dividend looks very safe. If you can handle the third-party-payer risk, this is a stock that could be very rewarding over time as the baby boomers age -- particularly if you reinvest the dividend. 

The right risks

Buying a penny stock is often closer to gambling than it is to investing, which is not a great long-term approach on Wall Street. However, if you are a risk taker, you can find a good balance between putting your money on the line and finding stocks with real foundations.

Healthcare REITs like Ventas, Healthpeak, and Omega all have very real demographic tailwinds behind them. They each offer different ways to take advantage of these tailwinds, with Ventas going the diversified route and Healthpeak and Omega using more focused approaches. But thanks to the pandemic, they are all viewed as a bit risky today, which should satisfy the thrill seekers out there. Indeed, any one of these options would be a better choice than a penny stock for most investors.

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Stocks Mentioned

Ventas, Inc. Stock Quote
Ventas, Inc.
$52.74 (2.55%) $1.31
HCP, Inc. Stock Quote
HCP, Inc.
$26.58 (2.59%) $0.67
Omega Healthcare Investors, Inc. Stock Quote
Omega Healthcare Investors, Inc.
$28.79 (2.13%) $0.60

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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