Shares of Medical Properties Trust (MPW -1.10%) are trading down by 34% this year as the real estate investment trust (REIT) struggles to attract investors amid rising interest rates and concerns relating to its tenants. The company cut its high dividend recently to support its efforts to reduce debt and improve its balance sheet.
However, many investors remain bearish on the REIT. Could a short squeeze happen?
Short interest is now at 30% of Medical Properties Trust's float
Medical Properties Trust's focus on healthcare properties hasn't made the REIT a safe buy as it did in the past. Its tenants have faced rising costs related to the pandemic. Earlier this year, it admitted that one of its largest tenants, Prospect Medical, had been unable to pay its full rent. Concerns that a recession might be coming only exacerbated investors' worries about the REIT's safety as an investment.
One way to gauge the level of pessimism around a stock is to look at the percentage of its float that is sold short. And with Medical Properties Trust, that percentage is up to an incredible 30%. The rise in the short interest appears to track the rising path of the federal funds rate. That benchmark rate affects not only what banks charge one another for short-term loans, but also the rates for an array of other forms of debt, including mortgages and credit card balances.
MPW Percent of Float Short data by YCharts.
The encouraging conclusion some investors might reach from the above chart is that if the federal funds rate comes back down, so too will the short interest associated with the REIT. Less short interest means less downward pressure on the stock price, which could pave the way for a rally.
That's a likely possibility, but given the REIT's financial difficulties, short interest in Medical Properties Trust might remain elevated until management can demonstrate to investors that the risk is gone. And with the economy still growing at a rate of 2.4% in the second quarter, the Federal Reserve might not start cutting interest rates anytime soon.
Could a short squeeze happen?
A short squeeze can send a stock's valuation soaring rapidly. If a company performs well and its stock begins to rally, short sellers who are worried about how much money a rising share price could cost them may be tempted to buy shares to cover their positions. That can lead to a cascade of buying as rising prices induce more short sellers to do the same. A key ingredient to such a short squeeze is a high level of short interest, which Medical Properties Trust clearly has.
What the REIT still hasn't done, however, is give investors a reason to be bullish on its prospects. Through the first six months of 2023, its funds from operations totaled $526 million, down from $554 million during the same period last year.
But the REIT announced last month that it was slashing its quarterly dividend from $0.29 per share to $0.15 per share and focusing on reducing costs. That could help it improve its financials, and at the very least, its new dividend looks much more sustainable. And with a yield of 8.2% at the current share price, the stock may still attract income investors.
The difficulty is that a REIT's success relies heavily on the health of its tenants, and outside of changing its tenants, there's not a whole lot Medical Properties Trust can do about that. It may be difficult to convince investors that it's in better shape unless it can show them evidence that its tenants are doing better.
Medical Properties Trust stock could be more volatile than ever
Although Medical Properties Trust stock has bounced off its 52-week low and has been increasing in value of late, it's still discounted, with a forward price-to-earnings ratio of less than 7. That suggests investors remain hesitant to buy it, even at this beaten-down valuation.
Now, with short interest high and a short squeeze a possibility, this could be an even more volatile investment. While its upside may be high if the REIT does well, that's far from a guarantee, especially since interest rates don't appear to be coming down in the near future.
Medical Properties Trust is an intriguing stock and one worth keeping an eye on, but it still has a lot to prove before investors should consider taking a chance on it.
