You’re tempted to increase exposure to stocks because of the market’s strength. But you’re still gun shy because of the painful selloff. Plus, you’re worried about a recession.
What to do? Buy health-care stocks.
They have plenty of defensive characteristics that help them outperform in recessions and late in economic cycles. But they also generate a lot of growth.
“Health care is our top sector amid heightened macro uncertainty,” says Bank of America strategist Savita Subramanian. “We believe the sector is well-positioned amid looming recession risks.”
Here are three reasons why you should own the health-care sector, and eight stocks and an exchange traded funds (ETFs) to consider.
1. They’re like tech, but with less risk and better dividends
Health care has posted the second-fastest earnings growth since 1986. Tech is No. 1. But tech is more volatile and more vulnerable to economic slowdowns. Tech also has more exposure to global supply chain issues. In contrast, health-care stocks are less likely to turn unprofitable, or post sharp earnings growth declines. Health care pays out bigger dividends backed by solid balance sheets and cash flow, supporting the group’s defensive characteristics. The Health Care Select Sector SPDR XLV, -0.04% exchange traded fund pays a 1.48% dividend yield.
2. Reliable demand growth
People are less likely to cut back on meds when their budgets get tight because of inflation. Otherwise, inflation is less of an issue for health care since pharmaceuticals and procedures are mostly reimbursed by insurers or the government. This shields consumers from rising prices. And more people are going to be needing meds and medical devices. That’s because there’s a nice demographic tailwind in the aging population. The 65-plus age group will grow by 50% over the next 20 years, says Bank of America. People spend more on health care as they age, of course.
3. A better regulatory environment ahead
The betting markets are good predictors of elections. Right now they are telling us Republicans are likely to take control of both the House and Senate this fall. I am apolitical, but if the gamblers are right, it will reduce the odds of drug-price-control reform from Washington, D.C. This will remove an overhang from the industry.
Big pharma: During the 2008-2010 recession and its aftermath, all health-care sectors outperformed the S&P 500 SPX, -0.16%. But pharma outperformed the most. That suggests this is the part of health care to overweight.
But what stocks? I like to look at the holdings of Baker Bros. Advisors for biopharma ideas, since they are among the best in the field. So I’ve followed their holding Seagen SGEN, -0.03% since I suggested it in my stock letter (the link is in my bio, below) in February 2011 at $15. The stock now trades for $177. But it still looks attractive.
For one thing, it’s the Baker Bros.’ top holding, at 38% of their portfolio. That’s remarkable portfolio concentration, which signals a high level of confidence. Next, there is a chance Seagen may get bought out by Merck MRK, +0.68%, according to the Wall Street Journal. If not, its business is fine. Seagen has a portfolio of antibody-drug conjugates that improve the potency and safety of cancer drugs by targeting them to tumors, with more variations of this on the way.
Two biopharma companies to consider because they look relatively cheap are BioMarin Pharmaceutical BMRN, +3.05% and Biogen BIIB, +0.41%. They both get a four-star rating (out of five) at Morningstar Direct. This tells us the stocks trade well below their fair value, as calculated by Morningstar Direct.
BioMarin has a portfolio of therapies for rare genetic diseases like mucopolysaccharidosis, a lack of enzymes needed to process sugars, which afflicts about one in every 25,000 people born. But BioMarin’s therapies also treat more common ailments like phenylketonuria, a metabolic disorder. Many more therapies like these are stacked up in the pipeline, including late-stage development therapies for genetic disorders like dwarfism and hemophilia.
Biogen’s second-quarter sales fell 5% because of generic competition for blockbusters like its Tecfidera for multiple sclerosis. But Biogen’s pipeline may soon deliver good news. The company should report Phase III data this fall for its Alzheimer’s therapy Lecanemab. It also has several therapies for neurological disorders on the way.
For more traditional pharma names, consider Bristol-Myers Squibb BMY, and Merck. Both are selling at discounts because of worries about patent expirations, says Bruce Kaser of the Cabot Undervalued Stocks Advisor.
For Bristol-Meyers, investors are worried about patents rolling off for the myeloma therapy Revlimid this year, and the cancer therapy Opdivo and blood thinner Eliquis in 2026. At Merck, they’re concerned about the loss of patent protection for the diabetes therapy Januvia next year, and the cancer drug Keytruda in 2028.
In both cases, the fears are overblown, argues Kaser. Bristol-Myers has a robust product pipeline and it’s also building out its product line and pipeline via acquisitions. As for Merck, the 2028 Keytruda patent expiration is still a long way off. And like Bristol-Meyers, it will likely be using its strong balance sheet to support acquisitions.
Medtech: These are medical-device companies that sell things like joint replacements, implants, pacemakers and insulin pumps. During the Great Financial Crisis recession, medtech companies continued to grow sales and earnings. In 2009, medtech revenue and earnings grew 3.8% and 8% on average, says Bank of America.
Near term, demand for their products should increase more than usual. That’s because people delayed procedures during the pandemic due to concerns about going into hospitals. Now they are getting procedures done.
One to consider is Zimmer Biomet ZBH, -0.08%. It’s the big player in joint reconstruction. So it benefits from the aging baby boomer population, rising obesity and the post-Covid rebound effect since many joint replacement procedures were delayed over the past two years.
Life-science tools: These are the “arms dealers” to biopharma companies and universities in drug-development research. They offer some safety because about 75% of their sales come from recurring revenue, says Bank of America. “This suggests more predictable cash flows,” says the bank.
Bank of America singles out Thermo Fisher Scientific TMO, +0.04%. It’s benefited from Covid because it offers tests. But its scientific instruments, consumables and contract-research businesses are also strong. “Organic” revenue (excluding acquisitions) grew an impressive 13% in the second quarter. Now that Covid restrictions are lifted, biopharma research will pick up again, one source of growth near term. The company is also growing by acquisition, most recently the big December purchase of a clinical-research-services company called PPD for $16 billion.
Also consider Medpace Holdings MEDP, +0.28% because of the strong insider buy signal. CEO and founder August Troendle bought $4.4 million worth of stock in July even though he already owned over six million shares. Like Thermo Fisher Scientific, Medpace offers clinical-research-services to biotech companies, particularly the smaller ones. But Medpace is growing much faster. Sales grew 27.7% in the second quarter.
Medpace stock has already moved up a lot from the CEO’s July purchase price of $145. The stock recently sold for $169. But insiders, particularly founders, do not buy for the short term. And the stock still trades well below the $231 it went for in November when the current selloff and bear market started. I also favor founder-run companies because they often outperform.
Michael Brush is a columnist for MarketWatch. At the time of publication, he had no positions in any stocks mentioned in this column. Brush has suggested SGEN, MRK, BMRN, BIIB, BMY and ZBH in his stock newsletter, Brush Up on Stocks. Follow him on Twitter @mbrushstocks.