07/01/2021
Healthcare Real Estate Could Prove Vital For Investors in 2021
Sector Offers Occupancy Demand, Rent Growth and Stability
Stay-at-home orders, social distancing and health and safety protocols devastated many real estate sectors over the past year, especially hospitality, senior housing and brick-and-mortar retail, which had been struggling even pre-pandemic.
But investors shouldn’t overlook the understated resiliency of healthcare real estate. The healthcare sector has proven its stability since the Great Recession, positioning itself as a compelling opportunity for investors in 2021 and beyond, given the sector’s steady occupancy, demand and continued rent growth during the COVID-19 downturn.
On a national basis, Colliers data showed vacancy rates for medical office space may have climbed slightly to 8.9% in 2020, but that stands in sharp contrast to the 13.6% vacancy rate for traditional office space.
Rent growth in the medical office sector also maintained its upward trajectory, rising by 9% over the last year to a second-quarter average of $25.22 per square foot, according to a report from Marcus & Millichap. Based on these metrics, the outlook for the medical office market is optimistic, and this should also lead to an increase in construction projects for the sector in 2021.
At Orbvest, a global real estate company that invests in income-producing medical real estate, we have noted investors’ preference for more investment in off-campus suburban locations, which seems to be tied to the increase in people working from home. There is also a perception that a smaller center has less infection risk than a large hospital or medical facilities — which is especially encouraging for the “heavy medical” spaces (those designed to accommodate bulky or heavy medical equipment, as well as specialized lighting, ventilation and HVAC) that our company is focusing on right now.
Let’s take a look at what could be in store for the healthcare market in 2021 and beyond, and why investing in healthcare real estate may bolster investors’ portfolios.
What Are the Major Advantages of Healthcare Real Estate?
When considering the reasons to invest in healthcare real estate, we should evaluate the sector based on three categories: pre-pandemic trends, pandemic-era behavior and post-pandemic growth potential.
Before the pandemic, the healthcare sector had been characterized by long-term leases, stable occupancy, consistent income streams and quality tenants with stable, long-term leases and high credit ratings. Further, the sector was not affected by speculative development gambles. Most developers and lenders for healthcare properties demand pre-leasing of 50% minimum to launch new construction projects.
The strength and stability of the sector’s occupancy rate is also notable. Between the Great Recession of 2008 and Q1 2020, the occupancy rate for medical properties remained remarkably stable, at around 92%, according to research from commercial real estate services firm JLL. Compare that metric to the average occupancy rate of roughly 82.1% to 85.8% for U.S. offices in that same period.
Over the long-term, healthcare properties also report an average retention rate above 80% and stable rent growth. According to JLL, the average medical office net rents steadily rose from $18.28 per square foot in 2012 to $21.51 in early 2020. This represents a stable, 1.5% year-over-year gain.
This recession-resistant sector has had a remarkably consistent performance during the COVID-19-induced economic downturn, since it is highly dependent on need and not particularly influenced by economic or business cycles.
Reflecting the strength of its tenant base (as well as assistance from the multitude of stimulus packages), medical office space owners on average collected rent from more than 90% of tenants. This vastly outpaced other sectors, such as multifamily; according to the latest RealtyTrac Rental Property Risk Report, landlords in 48% of all American counties remain at an above-average risk of defaulting.
Poised for Post-Pandemic Growth
Consistent stability over the past several cycles has positioned healthcare properties to experience significant investor demand and growth in 2021 and beyond. Currently, alternative real estate exposure, which includes healthcare, only makes up around 12% of most real estate portfolios, according to global investment firm Nuveen — as opposed to office properties, which account for 35% of portfolios. The firm projects that by 2030, alternative real estate could balloon to 50%, with healthcare making up 15% of this predicted portfolio — exceeding the 10% that office is expected to account for.
Nuveen also posited that the healthcare sector could grow as demand for life science facilities, medical offices and senior housing increases.
This expected increase in demand is supported by the consistent cash flows and cap rates for the sector. While small compared to other sectors, healthcare real estate is invariably experiencing a steady number of inflow investors. Our company is seeing significant purchases from private equity and private buyers, as well as institutional investors.
Additionally, Colliers noted that at the pandemic’s start, cap rates only increased by approximately 0.5% on multi-tenant medical properties and slightly more on single-tenant properties. However, because the sector remained stable with high occupancy and cash flows, property values have either returned to or are exceeding pre-pandemic levels.
The segmentation of healthcare facilities and the addition of telehealth have also made significant impacts on the healthcare real estate sector.
Segmenting away from traditional hospitals and diversifying into outpatient and specialized facilities is a growing trend that will create notable demand and opportunities for additional real estate facilities.
Perhaps surprisingly, telehealth has been a great addition to the healthcare real estate sector, rather than a threat. Telehealth is opening up a whole new income source for health systems and giving underserved patients a new entry point for receiving quality healthcare. The growth of telehealth is also accelerating the segmentation shift for hospitals and forcing them to redesign and repurpose their properties, adjust their operations and maximize productivity per square foot.
Lastly, with the decline of retail real estate, and a growing desire from patients for convenient and cost-effective healthcare, “medtail” looks to be an exciting new dimension of the healthcare real estate sector.
The medical real estate sector has proved its stability, adapted well to the pandemic and is expected to keep growing in the years to come. When you take all of these trends and tailwinds into consideration, it’s clear that healthcare properties represent a strong option for commercial real estate investing post-COVID.
MARTIN FREEMAN
Martin Freeman is the Co-Founder and CEO of OrbVest, a global real estate company that invests in U.S. income-producing medical commercial real estate. He has overseen the growth of the portfolio to over $350 million and leads an executive team that has grown its distribution channels to more than 10 countries around the world.
