Healthcare: An unjustified victim

Roger Keller

An excellent buying opportunity has opened up

The healthcare sector usually thrives in periods of slow growth – like between 2011 and 2015 - and is also an outperformer during recessions or when fears of bad times spread as we’ve witnessed in the second half of 2018.

Since 2016, the sector has been lagging the broader equities market because of intense debates about drug prices, particularly in the US, and because of better investor confidence on the economic outlook, at least until the middle of 2018. After the sharp underperformance since the start of the year, related to a rush towards cyclical sectors and exaggerated fears of political interference in the sector in the US, an excellent buying opportunity has opened up.

A clear winner in late stages of the cycle

Market volatility and bond spreads are in the lower part of the respective historical ranges. As we head into the late stages of the cycle, both should gradually rise. In the past, these have been very favourable developments for the healthcare sector. In addition, we see limited room for higher bond yields in the foreseeable future, meaning that this classical headwind for the sector will not blow. Hence, the macro background will be supportive. With regard to fears of political interference as the US Presidential election approaches, they are not only premature but exaggerated, not least because of the dominance of Republicans in the Senate but also lack of enthusiasm from the Democratic establishment.

Better earnings dynamics and a solid pipeline of new products

On both sides of the Atlantic, the relative earnings momentum of the sector has significantly improved. In the US, healthcare is the sector with the strongest revenue growth forecasts for 2019. Looking at the pipeline of new products, the newsflow is very encouraging. New drug approvals by the FDA have reached their highest level since 1995. The agency believes that it will be able to approve 10 to 20 new gene and cell therapies per year over the next few years. Demographics clearly boosts the earnings outlook, both because of the greying of society and because of the need to control costs, which goes among others through innovation.

A solid portfolio constituent

The combination of relative valuations that are below their long-term averages in the US and in line in the Eurozone with solid and highly visible earnings trends gives the healthcare sector strong trump cards to outperform, particularly as we are late in the cycle. Dividends are safe and should offer growth.