Senior housing is a necessity, given that residents often need extra help with activities of daily living. In some cases, the extra care is so significant that residents simply couldn't live without a caregiver constantly available. And yet the coronavirus pandemic has put the broader senior housing industry into a tailspin, with particular pain in the nursing-home segment, which provides the most extensive and essential care. Is this an opportunity, or are the risks still too high?
In the doldrums
Omega Healthcare Investors (OHI 0.72%) is one of the largest owners of nursing homes in the real estate investments trust (REIT) sector. The stock is down roughly 20% since its pre-pandemic high in early March 2020. The company's dividend yield is a huge 8.6%. By comparison, Healthpeak, which sold off its nursing homes and other senior housing assets to focus on medical office and medical research properties, has seen its stock basically fully recover from the pandemic-driven downturn. Its yield is a comparatively tiny 3.5%.
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Omega isn't alone. Peers Sabra Healthcare and LTC Properties are off around 25% and 24%, respectively, since early March 2020. Their dividend yields are 7.9% and 6%, respectively. Basically, the nursing home niche of the healthcare sector is still feeling a great deal of pain. And yet the yields here are extremely enticing for dividend investors looking to maximize the income their portfolios generate.
As you might guess from the persistent industry weakness, this is probably not the best place for your money if you are risk averse. But if you have a long-term view and a contrarian streak, here's some things to think about as you dig into the nursing home niche.
1. Occupancy
Occupancy levels at many nursing home REITs remain historically weak. More residents allow costs to be spread over more people and improves profitability. As long as occupancy is low, nursing home operators will struggle. And, thus, their ability to pay rent to REITs will be a risk you need to watch. Notably, Omega has targeted 80% occupancy as the key number where its tenants will start to see improved profitability. At the end of 2021, occupancy was stuck at about 74.2%. It isn't the only nursing home REIT facing this headwind, though, overall, occupancy levels have been inching higher. That's good news, but there's still a long way to go before the industry is back to pre-pandemic occupancy levels.
2. Costs
Complicating the low occupancy levels are inflation-driven cost increases. That spans everything from the cost of electricity to the cost of staffing. While these costs don't directly impact most nursing home REITs, which generally lease out their assets and don't operate them, it puts pressure on tenants. There are actually three issues here. First, operators are having a hard time finding staff, which constrains the ability to bring in new tenants, something LTC Properties has been highlighting for several quarters. Second, when staff isn't available, nursing homes often have to bring in more expensive contract labor because they legally have to be fully staffed. Third, to attract and retain staff, nursing homes are probably going to have to pay more, leading to a systemic increase in costs. Although the labor shortage is acute today, it will probably be resolved over time, but the lingering impact will be tighter margins in an already competitive business.
3. Government help
The federal government stepped in early to help the most at-risk groups, which included facilities that house seniors. That cash has mostly been doled out, according Sabra Healthcare. The push has now shifted toward getting aid from the states. That said, government largess will only last for so long and can only do so much to help struggling operators muddle through. All the REITs are dealing with operators that are having trouble paying their rent at this point. If government aid starts to dry up, more operators could find themselves asking their landlords for rent concessions.
Is it worth the risk?
Again, if you are risk averse, the answer is a pretty clear no here. There are too many uncertainties in the nursing home industry right now, and while things are improving, that rebound has been very slow. That said, a contrarian might want to do a deep dive on nursing home-heavy REITs. The recovery may take longer, perhaps years longer, but the necessity nature of nursing homes suggests that something will be worked out. And as long as you go in recognizing that dividend cuts are a possibility (Sabra has already cut), then you could end up very well rewarded once the sector is back on its feet. Between now and then, however, you'll probably need a strong constitution to ride out the pain.
