Health Care Stocks Await a Diagnosis

During recessions, health care stocks are traditionally seen as a refuge for investors. Even if the economy turns sour, people still need medical attention. Just as they need consumer staples, another popular sector during bear markets.

This year, however, politics is getting in the way of a defensive investing strategy in health care stocks.

In the last three months through Dec. 1 (according to Capital IQ), stocks in the health care sector are down 28%. That’s better than the S&P 500’s 36% decline, but it’s worse than other defensive sectors like consumer staples (-19%), telecommunication services (-21%) and utilities (-25.5%).

What’s wrong? On a basic level, investors are worried that Democrat-led health care reform in Washington is going to shake up the health care sector and hurt profits.

But it’s actually more complicated than that. The U.S. health care system is astonishingly complex and few people know exactly what President-elect Barack Obama may propose nor what Congress would approve. And few can predict how that legislation (if it passes at all) would impact particular subsectors, industries and individual companies.

This note from Standard & Poor’s equity analysts makes a good attempt at assessing health care’s winners and losers under an Obama administration.

A note (not available online) from SF health care policy team also tackles the issue:

Investors across the spectrum of healthcare are seemingly suspended (if only temporarily) in limbo with uncertainty pertaining to the myriad provisions of competing health reform proposals.

Will reform actually happen? “Sooner rather than later,” Stifel analysts say, given: “Healthcare costs are now at 16% of GDP and rising, there exists a general consensus by all stakeholders that something must be done, and the Administration has expressed a strong desire to fix the problem.”

But when it comes to health care subsectors and individual companies, analysts admit there is a lot of uncertainty.

On the plus side, broader insurance coverage is likely to mean more demand for medical services, facilities, devices, drugs, etc. That could boost revenues. On the minus side for investors, the government is likely to demand cost-cutting and impose new regulations. That could squeeze profit margins significantly.

Investors might hope the limbo regarding health care will be temporary, cleared up by whatever Congress and Obama do early next year.

But maybe not. In the Stifel report, analysts Todd Weller notes reform efforts may help health information technology firms. But then he offers this insight, which I think can be applied to the entire sector: “We think it is important not to overplay this as a driver given that history shows little happens in health care easily or quickly.”

Even after the first round of legislation is passed (and who knows how long that takes), it could take years and years (and thousands of pages of extra regulations and laws) before the health care system is finished evolving. In other words, it could be a long while before we know the true impact of health care reform on health care investors.

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