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Navigating Healthcare Real Estate Amid Interest Rate Changes
By Drew Sandler, Investment Associate

Rising and falling interest rates are making waves, impacting transaction volumes and asset values across real estate sectors. Yet, healthcare real estate has historically stood out as a “low beta” sector, showing that it is not as vulnerable to these macroeconomic shifts when compared with other asset classes. With a focus on delivering necessary services in stable environments, healthcare real estate has unique qualities that help insulate it from the full force of economic changes.

The most direct way that rising interest rates impact capital markets is through increased borrowing costs for leveraged buyers. This increased cost of capital causes buyers and lenders alike to reconsider risk adjusted returns in the market, creating a bid-ask spread between the pricing expectations of buyers and sellers. In publicly traded markets, like equities or corporate bonds where there is a high level of liquidity, uncertainty or stress in the market is reflected by real time changes in asset prices. However, in commercial real estate and other private markets, pricing is much less transparent. Because of this, macroeconomic tides of uncertainty are more commonly met with a slowdown in overall transaction volume as buyers and sellers engage in a period of price discovery.

The medical outpatient building (“MOB”) sector benefits from robust demand drivers. Despite the capital markets volatility, the sector has continued to receive strong investor appetite throughout the Federal Reserve’s rate tightening cycle when compared with other real asset classes. Unlike traditional commercial office buildings, healthcare services largely require face to face interactions which reduces the risk of “work from home.” According to a 2023 questionnaire, patients overwhelmingly prefer in-person doctor visits to telemedicine as they feel the care provided is more thorough, accurate, and personalized. Additionally, demand for outpatient services is continually increasing as hospitals seek to shift care away from inpatient hospital settings due to better cost efficiency. These demand drivers are overlayed by favorable demographic trends driven by the rapidly aging American population where the 65+ and 80+ age cohorts, which spend meaningfully more on healthcare than younger groups, are projected to have outsized population growth in the coming years compared to the general population. Based on forecasts from the U.S. Census Bureau, the share of the population over age 65 is expected to increase from 15% today to 20% in 2030 and to 25% in 2060. These factors, among others, continue to position MOBs as an attractive allocation for investors in the alternative asset space.

“HEALTHCARE REAL ESTATE HAS UNIQUE QUALITIES THAT HELP INSULATE IT FROM THE FULL FORCE OF ECONOMIC CHANGES.”

One unique element of the medical office sector is the prevalence of long-term leases with fixed annual rent escalators, often backed by investment-grade credit hospital systems or large independent physician groups. Providers have continued to grow specialized, high acuity service lines with significant capital investment into the real estate buildout, leading to reliable tenant performance, retention, and ability to mark rents to market over the long term. In some instances, rent spreads at lease renewal can exceed 10% or more (in addition to 3.0% to 3.5% annual contractual increases) resulting in attractive long term compounded annual growth. This is further supported by available debt financing in the sector that often includes majority or full “good news” funding for tenant improvement allowances, leasing commissions, and capital expenditures. This allows for the consistent growth of cash flow over time and minimizes large capital calls when compared to other sectors.

In today’s economic climate, Anchor’s focus on strong, value-driven relationships across the country has been key. These trusted partnerships continue the flow of attractive, off-market investment opportunities, allowing us to stay nimble and selective in the current environment. Since the Federal Reserve’s initial interest rate cut in September, we have seen seller calls for offers increase almost immediately – meaning, more and more sellers are coming off from the sidelines and bringing facilities onto the market that align with Anchor’s strategic investment criteria. We expect to see this trend persist in the coming months as the Fed continues to cut interest rates causing bid-ask spreads in the market to narrow.