GMRE - Global Medical REIT: Brace For A Hawkish Fed

Summary

• Global Medical REIT stock has recovered remarkably from its October capitulation lows. Therefore, investors who bailed out at those lows have missed a steep recovery.
• However, the Fed's hawkish stance must be considered carefully. Accordingly, we assessed that its near-term upside has likely been reflected.
• Therefore, if you decide to buy now, you must be prepared to hold till the Fed turns less hawkish, given the impact on its acquisition momentum.
• At an NTM AFFO per share multiple of 9.2x, GMRE is still attractive.

GMRE: Significant Battering On Its Valuations

Global Medical REIT Inc. ( GMRE ) primarily acquires purpose-built healthcare facilities and leases these facilities to healthcare systems and physician groups. Most of its healthcare facilities are located in secondary markets and suburbs of primary markets and are leased to single tenants under triple-net leases.

The rising cost of healthcare and rising inflation have increased challenges in recent years. The tight labor demand/supply dynamics and elevated energy costs have driven inflationary pressure on hospitals. As such, healthcare REITs have also suffered as investors become concerned over the sustainability of their tenant base.

During GMRE's Q3 earnings call in November, analysts were also concerned about whether Pipeline Health's bankruptcy could further impact the company's rental profile. However, the GMRE maintained its confidence that Pipeline would accept its lease and thus expects it to "continue to get paid as normal" based on the outcome of the bankruptcy process.

We assessed that significant damage had been inflicted on GMRE's valuations. Notably, GMRE's YTD total return is still down more than 40%, even though it has recovered remarkably from its October lows. As such, its near-term upside has likely been reflected as investors capitulated.

GMRE last traded at an NTM AFFO per share multiple of 9.2x, well below its peers' median of 14.4x (according to S&P Cap IQ data). Moreover, its NTM dividend yield of 8.96% remains at the one standard deviation zone above its all-time average. Hence, the critical question is whether GMRE's valuation is constructive for a medium-term recovery, given its battering.

GMRE: The Fed Remains Hawkish

We believe investors need to assess whether the company's acquisition cadence can improve from FY23, even as the Fed remains hawkish. The company highlighted previously that spreads had widened significantly between buyers and sellers, affecting its deals' momentum.

The company also accentuated that investors should be prepared for a slowdown in its deal-making, as higher financing costs have required higher cap rates. However, buyers and sellers still need time to concur, as CIO Alfonzo Leon reminded investors that the market is "still in transition."

Moreover, the company needs to ensure that its acquisitions are accretive to its operating performance, which also depends on its cost of financing, as Leon articulated:

And my overall sense of it is in 2023, I think there's going to be a good opportunity to buy medical office. But given our goals of growing this company and doing it in a way that is accretive, we're always mindful of our cost of capital and we always want to grow accretively, so we can't ignore that. (GMRE FQ3'22 earnings call)

The consensus estimates suggest that analysts remain lukewarm over the forward prospects of the company's ability to improve its AFFO accretion. Accordingly, GMRE is projected to increase its AFFO per share by 3.4% in FY23, below FY22's projected uptick of 3.9%.

Notwithstanding, we assessed the estimates have likely reflected significant uncertainty, given the current macro headwinds. Moreover, the Fed's hawkish stance through 2023, raising its median terminal rate to 5.1% , has stanched the recent pullback in the 2Y and 10Y yields.

As such, we encourage investors to remain cautious in anticipating that GMRE could recover its 2022 highs anytime soon. Coupled with the increasing likelihood of a recession , we believe investors should consider buying GMRE on deep pullbacks to improve their reward/risk profile.

Takeaway

GMRE has pulled back more than 10% (in price-performance terms) from its November highs. However, we assessed that the potential for further downside volatility should not be ruled out, even though GMRE's valuation looks attractive.

Hence, while we believe the current levels are possible entry zones, investors should add cautiously over time.

Rating: Buy.

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