- The Healthcare sector has performed really well in 2021, with its representative ETF (XLV) gaining about 20% just in the first 8 months.
- We are introducing the sector providing our overall perspective and how it can be played as an historically defensive sector.
- We are showing the best 10 stocks for the Everest Formula , and a brief analysis about the most promising ones.
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Healthcare sector – general overview
The Health Care Select Sector SPDR Fund ETF (XLV) offers a great choice to expose to the leading healthcare and pharmaceutical companies at low cost, diversification, tradability, and liquidity. So far, in 2021, the Healthcare ETF has performed really well, in line with the overall market:
Plus, looking from a long-term perspective, it has not only outperformed the overall market by a large margin in the past, but also has offered greater protection during market downturns:
Sector Advantages
- Healthcare has proven to be a defensive sector: since 2007, the XLV fund has weathered much better than the overall market during major crashes. For example, during the 2008 crisis, the overall market suffered a drawdown of about 50%, while the XLV ETF went down of “only” 35%.
- Healthcare is a sector poised to continue to grow: it is the most innovative sector for the future, aided by the most reliable secular trend: people’s desire to live longer and better.
- It’s a good hedge against inflation: demand for health care is relatively immune from inflationary pressures (you are not likely to turn down medical care because of increasing price). this makes healthcare stocks as good as gold for hedging against inflation. This can be a key advantage in this period of quantitative easing and fear about rising inflation.
Sector Disadvantages
There is only one remarkable disadvantage in investing in a global Healthcare index fund at this moment: current valuations. Indeed, as for the overall market, healthcare stocks are generally way more expensive than the last years. Current average PE ratio is about 35, in comparison to the average PE ratio of the last 20 years that is about 22. This means that investors that are now buying an Healthcare ETF should expect lower returns for the next years.
So, how can we take advantage of the benefits of this sector without risking poor future performances? We need to select the right stocks inside this sector, that are not as overvalued as the overall index, but that at the same time are high profitable and well managed. Here the Everest Formula comes in handy. We’ll show the best stocks of the Healthcare sector picked by our algorithm, that can be analyzed more in depth, seeking out possible bargains.
Top 10 stocks of the Healthcare Sector
Here we are! These are the most interesting stocks that Everest Formula suggests in the Healthcare Sector, as per today:
As we can note, they have a really high Return on Capital (identified by ROTCE), meaning that these companies are really good in what they do, producing impressive earnings in relation to the assets that they use. But more important they are able to produce tons of cash compared to the price you pay to get them. The average PE Ratio is about 13, far less than the average PE of 35 of the whole sector.
From this list, we have selected 3 companies that seem particularly poised to do very well, both from qualitative and quantitative analysis.
1) Innoviva Inc. – INVA
Innoviva is currently out of the Everest Strategy top 10 rank because it is a Small Cap, but it still deserves attention, thanks to the impressive profitability for its current valuation.
Innoviva has just a handful of employees and manages a royalty stream on some respiratory drugs sold by GlaxoSmithKline (GSK). The company uses this regular cashflow to make equity investments and continue its growth, that management claims to be about 20% in the next years.
From the end of 2020, the bearish sentiment that sorrounded the stock due to some missing expectation seems to have faded away, and INVA is enjoying a nice bull run. Despite that, the stock seems to be still undervalued, with a PE ratio of 4.3 and a free cash flow yield of 22%. INVA is a pure profit machine raking in good cash flow that seems to be growing.
Strengths
- Innoviva is sustaining a multi-year uptrend, thanks to strong quarterly results and favorable valuations.
- Constant cash inflows coming from royalties can be used to make new investments and generates further cash flows.
Risks
- The royalty stream will stop once the drugs have gone generic, so the future of the company will heavily depends on how management allocates the company’s money.
- INVA has a consistent amount of debt. Even if it is well covered by the free cash flow, the fact that it is not generated by their own assets makes the stock a riskier play, in case of unexpected events.
2) Molina Healthcare Inc. – MOH
Molina Healthcare is one of our favorite companies to own right now. In fact, it sits in 3rd position of the Everest overall ranking.
Molina Healthcare is one of the largest operators of U.S. government-sponsored health plans such as Medicaid and Medicare, providing managed health care services to low-income families and individuals. It servez approximately 4 million members in 15 U.S. states.
Analysts expect MOH to grow about 18% annualy for the next 5 years, making the stock a potential impressive bargain at the current valuation.
The stock positive trend of the last years has been consistent and steady, making MOH a perfect Healthcare stock, able to reduce the portfolio volatility and hedge for inflation and market crashes.
Strengths
- Molina is moving upward and onward. Its growth is not only supported through acquisitions but also organically. The company is consolidating its position in the key markets.
- With the aging population and a greater divide in upper and lower income families, we see the demand for low-income healthcare services increasing in the coming years.
Risks
- The pandemic created a greater need, but it also caused a big jump in expenses. Now it looks like the expenses are under control, but the need and demand ought to remain elevated.
3) Emergent Biosolutions Inc. – EBS
EBS, like INVA, is a Small Cap that deserves further analysis because is a value play in a pandemic era.
Emergent BioSolutions is an American multinational global life sciences company, that develops and produces vaccines for numerous diseases, and it is an important player in the COVID-19 vaccines space.
EBS has had a rough go over the past year resulting from a cross-contamination mishap at their Baltimore facility, where they were producing J&J vaccines. The company had to toss millions of vaccines. Consequently, the FDA put a halt on vaccine production at that facility. The sentiment on the stock has turned extremely bearish, losing more than 50% from its peak of February 2021.
While the temporary obstacles are being sorted out, the rest of the business continues to thrive. Emergent BioSolutions is a very consistent business, operating with a very stable and fast-growing top line.
Strengths
- Market overreaction for temporary headwinds opened up great value opportunities. EBS is still a good business, and EBS already announced plans to resume manufacturing of the J&J vaccine.
- EBS is not strictly related to Covid vaccines. It has also other products (like NARCAN nasal spray) whose sales are growing really fast.
Risks
- When Covid-19 will vanish, a not negligible slice of EBS sales will disappear too.
- The Baltimore facility incident could have caused a reputational damage that need some time to be redeemed.
Conclusions
Despite the current high valuations of the overall market, Healthcare sector seems to contain some good stock available at a discounted price. The Everest Formula is not only a successful investing strategy, but also a powerful algorithm that can be used to seek out value stocks in any sector and any market condition.
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