Healthcare stocks at an 'inflection point,' analyst says
07/19/2024 05:11
Earnings for healthcare companies have declined for six straight quarters. But analysts have a more positive outlook going into second quarter earnings.
Healthcare stocks rebounded in July, but they're still underperforming the broader market year to date.
The S&P 500 Health Care Select Sector ETF (XLV), which includes pharmaceutical giants such as Eli Lilly (LLY) and Johnson & Johnson (JNJ), rose 7.7% since the beginning of the year, while the S&P 500 (^GSPC) index has gained 16%.
Earnings for the healthcare sector have declined for six consecutive quarters, dragging down earnings growth for the overall S&P 500 index. However, analysts have a more positive outlook going into second quarter earnings.
"We are really at an inflection point," Ford Pitt Capital Group chief investment officer Dan Eye told Yahoo Finance. "Analysts are expecting very strong earnings growth for this quarter, and the picture should even improve in the coming quarters and into 2025."
Healthcare stocks spiked in 2020, surpassing returns in the broader market as the pandemic took hold. But the sector experienced a tumultuous year in 2023, when a "COVID-19 hangover" caused the stocks to decline as some companies saw demand normalize.
The sector has followed an upward trajectory in 2024, though it hasn't kept pace with other sectors, such as Technology (XLK) or Communication Services (XLC). On Wednesday, the Health Care Select ETF reached a record-high close, though it fell more than 2% during Thursday's session.
Eye expects the sector to see more upside partially due to its valuation. He noted the healthcare sector is reasonably valued relative to the overall market and trades at a discount to the S&P 500.
Eye also described demographic trends, such as the increase in the population over the age of 65 and rising healthcare spending, as establishing a foundation for sector growth.
"Those demographics are extremely favorable for the healthcare sector," Eye said. "We think that just creates a very strong fundamental backdrop for a lot of pharmaceutical companies as well as healthcare insurance."
Medical breakthroughs are also increasing in prominence. 2023 saw the second-highest number of FDA novel drug approvals in the last 30 years. Innovation could offer another tailwind for the sector, given the the rise of AI and the buzz around GLP-1 drugs.
Some industries and specific stocks in healthcare have seen outsized growth. Drug manufacturer companies, which account for about 35% of the healthcare sector, have seen shares rise 13% year to date. And Eli Lilly has been at the head of the pharmaceutical charge due to its GLP-1 development and FDA approval of its Alzheimer's drug. Lilly has a 45% year-to-date return.
However, other areas could be more at risk. Earlier this month, a report by the Federal Trade Commission criticized pharmacy benefit managers (PBMs) and blamed them for higher drug prices. The agency is reportedly expected to sue the three largest PBMs, which are operated by UnitedHealth (UNH), Cigna (CI), and CVS (CVS).
"Healthcare stocks tend to be the punching bag sometimes in the political season," Eye said of PBMs. "These are extremely low-margin businesses. It’s all driven by volume. So I think the more that you really dig in, I don’t think it’s very easy to say they’re out there gouging the consumers."