Over the bull market of the last three years, health care has outperformed the other nine sectors comprising the S&P 500 Index. The sector’s annualized total return of 27.08% for the last three years is considerably higher than the index’s annualized total return of 17.4% for the same period.1 Three years of outperformance in health care has happened only a handful of times and would be unprecedented if it happens for a fourth year — a possibility being driven by favorable themes, earnings growth and reasonable valuations. Let’s take a closer look at the dynamics driving health care’s positive prognosis.
Parsing performance
Health care’s outperformance may surprise some investors, given that it’s generally viewed as a defensive refuge from market volatility. While some parts of the sector are more defensive, there are opportunities within health care to outperform even in an up market, in my view.
The chart below compares S&P 500 Index returns with those of the four main health care subsectors — health care devices, health care services, biotechnology and pharmaceuticals, which are very different, as the returns indicate. Unlike energy, for example, which is driven by the price of a barrel of oil, there’s no single data point that overwhelmingly drives the health care market. As you can see, there have been only two years since 1996 — 2006 and 2010 — in which no health care subsector has outperformed the market. In most other years, at least two subsectors have beaten the market.
At Least One Health Care Subsector Has Outperformed the S&P 500 Index in 17 of the Past 19 Years
Longer-term themes provide favorable backdrop
I believe several concurrent long-term growth trends make health care quite compelling, including:
Aging populations in the developed world, where access to health care will likely increase.
Rising incomes in emerging markets, where people spend a disproportionate share of income on their health. According to the World Bank, low-income countries spent an average of 5.4% of their GDP on health care in 2012, while high-income countries spent 12.2%.2
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The expectation that the US government will spend an incremental $1.8 trillion on health care over the next 10 years related to the Patient Protection and Affordable Care Act.3 The implications are significant because many people will have more access to the health care system than ever before.
Areas of opportunity
In my view, promising health care investment opportunities include these:
The pipeline of new treatments within the biopharmaceutical industry is more robust than we’ve seen it in years, with new drugs using novel therapeutic approaches to treating a variety of debilitating and deadly diseases, such as Alzheimer’s and cancer.
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Pharmaceutical companies are unlocking strategic value by bringing in new management teams, improving operational efficiency, and taking advantage of the ripe mergers and acquisitions (M&A) and low interest rate environment to split up, spin out or sell non-core businesses.
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Massive consolidation currently ongoing in the specialty pharmaceutical and biotechnology space will continue, in my opinion. Larger companies will continue to bolster their pipelines by buying assets, and consolidation in the specialty pharmaceutical space will continue, given its fragmentation and the high potential profitability of these deals as purchased products and layered on to existing infrastructures.
Health care reform also has broad implications for the sector. More federal money is being directed into health care, which we expect to spur volumes and incremental earnings growth for a broad array of biopharmaceutical, medical device and health care service companies.
From a long-term perspective, most of these investment themes are long term in nature and should drive sustainable growth for the next 10 to 15 years.
For a more comprehensive discussion of the health care sector, please read the white paper titled Examining the Global and Local Forces Shaping Health Care Investments.
1 Source: Invesco, FactSet Research Systems Inc., Jan. 31, 2014
2 Source: World Bank, World Development Indictors, April 2014
3 Source: Congressional Budget Office, April 2014, figure represents gross spending
Important information
The S&P 500® Index is an unmanaged index considered representative of the US stock market.
Derek Taner, CFA
Portfolio Manager
Derek Taner is the lead portfolio manager for the Invesco Global Health Care team.
Mr. Taner joined Invesco in 2005. Previously, he worked for Franklin Advisers Inc. as a portfolio manager on Franklin Templeton’s health care team from 2002 through 2005 — the final two years as lead manager. He began his investment career in 1993 as a fixed income analyst with Franklin Templeton and was promoted to assistant portfolio manager in 1997. In 2000, he joined the firm’s equity department and was named co-manager of its equity-income product.
Mr. Taner earned a BS degree in business administration with an emphasis in accounting and finance and an MBA from the Haas School of Business at the University of California (Berkeley). He is a CFA charterholder.
The information provided is for educational purposes only and does not constitute a recommendation of the suitability of any investment strategy for a particular investor. Invesco does not provide tax advice. The tax information contained herein is general and is not exhaustive by nature. Federal and state tax laws are complex and constantly changing. Investors should always consult their own legal or tax professional for information concerning their individual situation. The opinions expressed are those of the authors, are based on current market conditions and are subject to change without notice. These opinions may differ from those of other Invesco investment professionals.
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