Sticking with Health Care

While S&P is less bullish on the overall sector, it still likes selected medical-device makers and biotechs

By Robert Gold

Investors in pharmaceutical stocks lately have been spooked by drug patent expirations and other potential pricing constraints that could put the brakes on growth rates. Case in point: Industry leader Merck (MRK ) recently said it expects no earnings growth in 2002. With pharmaceuticals accounting for 66% of the health-care stocks listed in the S&P 1500 Super Composite Index, Standard & Poor's has recently lowered its recommended health-care sector allocation to marketweight -- to reflect the neutral stance on pharmaceuticals.

We at S&P also think the lackluster performance in pharmaceuticals will restrict the overall performance of the consolidated S&P Health Care Index over the coming 6 to 12 months. Year-to-date, the consolidated S&P Health Care Index was down 1.4%, equaling the 1.4% decline for the S&P Super 1500.

Nevertheless, we'd still devote a significant portion of a diversified portfolio to health-care stocks, with an emphasis on medical devices, biotechnology, and selected service areas, as well as generic and specialty drugs.

Medical technology stocks should continue to perform well in 2002, aided by new-product approvals in areas such as cardiology, orthopedics, and diagnostics. The outlook for this group should improve further as foreign currency headwinds abate and consolidation activity accelerates. S&P is looking for industrywide revenue growth of 13% in 2002, with margin expansion driving average earnings in the high-teens.

Within the biotech group, we're concerned about a lack of leadership at the Food & Drug Administration, which could result in some disruption on the product-approval front. However, we continue to favor this volatile group and believe that the profitable companies with solid pipelines and current product revenue streams will significantly outperform the market.

We have become slightly less bullish on the health-care facility names in recent months, largely reflecting our concerns that the upward pricing cycle seen in recent years has reached its peak due to budgetary pressures at the state and federal government levels.

Among S&P's current favorites in the sector: Amgen (AMGN ), Biomet (BMET ), and Stryker (SYK ). Each carries a 5 STARS (buy) recommendation.

Gold is an equity analyst covering health care stocks for Standard & Poor's

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