Do patients with Dementia/Alzheimers understand what's going on, even though they cannot communicate?

Yes, a person with dementia shows awareness in many ways including smiling and sometimes even speaking. Cherish the moments!

Yeah, kind of, mom once asked if she could die after we had a cardiology visit and I told her more or less the truth, but softened with "we will try some more medicine" (which was true) and "we would keep her comfortable and find a better kind of hospital for her if she needed to go again" (which we did - next move was in fact inpatient hospice....) My mom once asked me if *my husband* had a "brain rot disease" - she had dreamed it, and I knew it was really about her. I was so torn up inside I don't even know what I told her, I told her Henry was OK, but may have said things like you have had strokes and some parts of your brain don't always work right and we all understand about that, you can't help it.... But yeah, once in a while they realize what's going on, and that it's not good. I think my mom maybe began to pray a little more and prepare herself emotionally in a subtle way, its not necessarily a bad thing to be a little sad rather than just mad and fighting to figure out who is to blame all the time, especially if they also know *you* know but are stilll planning to be there for them and love them.

Thank you for answering~ the things you've described happen when I hug mom & kiss her. When I visit I hold her hand and love on her the entire time, she smiles so big & pretty.
Reason I asked was~ I was visiting Mama and she was very calm, dozing off in her chair off and on. She woke up and was staring at something behind me; I asked her "what are you thinking mom?" & she replied "I am really a wreck"
"I am really a wreck, aren't I?" as she glanced around the room. I've been feeling tortured thinking that my precious mother knows that her mind is failing her.** It was as if she became very lucid at that moment!
*** Any one else have this experience?

Very much so, yes. Their perceptions are a little different, more on the level of a small child. Tone and volume of your voice are very important. Touch is very important, something dearly craved and immediately calming. My neighbor, Harold, had advanced dementia and could no longer speak. So I would give him a big hug and he would smile, his eyes would sparkle with mischief.
My grandfather was a grumpy old man, but when my little cousin Barbie threw her arms around his neck, he was putty in her hands.