From Standard & Poor's Equity Research
How do key Standard & Poor's 500-stock index sectors stack up for 2008? Here is the fourth in a series examining the outlook for five S&P sectors: the four sectors with marketweight recommendations that have the largest market cap weightings in the S&P 500—and the one sector with an overweight recommendation. A selection of five of S&P's top-ranked stocks in each sector will also be featured. Be sure to check back in the days to follow for more sectors—and more stock picks.
More information about S&P equity research can be found at http://outlook.standardandpoors.com.
Sector Recommendation: MARKETWEIGHT
S&P 500 Market Cap Weighting: 12.2%
S&P recommends marketweighting the S&P 500 Health Care sector. Year-to-date through Nov. 23, the S&P Health Care index, which represented 12.2% of the S&P 500 index, was up 5.2%, compared with a 1.6% gain for the S&P 500. In 2006, this sector index increased 5.8%, vs. a 13.6% rise for the 500. There are 10 subindustry indexes in this sector, with Pharmaceuticals being the largest, at 53.4% of the sector's market value.
S&P analysts have a positive fundamental outlook on the Health Care sector. Specifically, our outlook for the S&P Pharmaceuticals subindustry is positive, based on new Medicare business, price increases, a foreign exchange tailwind, and cost-cutting measures. In addition, we are positive on the Health Care Equipment and Health Care Supplies subindustries, based on ongoing strength in the cardiology, diabetes, pain management, and orthopedics markets.
S&P analysts forecast 14% earnings growth in 2008. The sector recently traded at a price-to-earnings (p-e) ratio on estimated 2008 earnings per share (EPS) of 15.1 times, vs. 13.9 times for the overall market. Its p-e to projected five-year EPS growth rate (PEG ratio) of 1.2 times is above the market's PEG of 1.1 times.
We recently raised our technical opinion on the S&P 500 Health Care index to neutral with a positive bias. The sector remains in a longer-term uptrend but has drifted sideways since the beginning of the year. The index has traced out a lower high but has not yet put in a lower low. Prices are sitting in between the 17-week and 43-week exponential moving averages . The sector's relative strength vs. the S&P 500 has broken out to the upside, but remains in a long-term downtrend. This recent outperformance has more to do with the defensive characteristics of the group, as prices have not dropped as much as the overall market. Weekly momentum is neutral, and is not giving any clues about the future direction of the sector.
In conclusion, we recommend marketweighting the Health Care sector, as we believe investors are beginning to question how resistant health-care companies are to a weakening economy, particularly in light of rising cost pressures from Medicare. Also, these issues may be pressured by a push by either political party in the upcoming election year for some sort of universal health-care coverage.