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Buy healthcare stocks while they look sickly

Worldwide Healthcare Trust's manager, Sven Borho, explains why investors shouldn't be scared of Trump
March 16, 2017

The new US president is preparing to dismantle the US healthcare system and has recently issued a Twitter tirade against drug pricing. So surely this is a bad time to buy healthcare stocks?

Quite the opposite, says Sven Borho, manager of IC Top 100 Fund Worldwide Healthcare Trust (WWH). The biotech sector is cheaper than it has been in over 20 years and while political storms rage above it, Mr Borho says healthcare companies are gearing up for a merger and acquisitions (M&A) frenzy, which could benefit investors.

Biotech and healthcare stocks were punished in the second half of 2016 due to presidential candidate Hillary Clinton's comments on drug pricing. The Nasdaq Biotechnology index fell 6 per cent in sterling terms over the 2016 calendar year (21.4 per cent in dollar terms) and now stands on a rare discount to the S&P 500 index. This year President Trump has set out to repeal the Affordable Care Act and replace it with a new vision of US healthcare, and last week he sent biotech stocks into a nosedive with a Tweet pledging to take on high drug prices.

But below the political storm lies a host of healthcare companies gearing up to buy their way to higher earnings while valuations are low. "Cash piles [of pharma companies] are sky high," says Mr Borho.

That should benefit Worldwide Healthcare, which is trading at a discount to net asset value of about 1.25 per cent.

The trust has 4.2 per cent of its assets in Alexion Pharmaceuticals (US:ALXN), which Mr Borho says is a "sweet little acquisition target", and medical technology company Wright Medical (US:WMGI), a 4.3 per cent position.

Large pharma and biotech companies are choosing to buy their way to success rather than come up with cures themselves, so M&A rather than innovation is driving share prices.

"Drug development is like a lightning strike," says Mr Borho. "Lightning doesn't strike twice in the same place so for the big companies, instead of spending £7bn on research and development (R&D), the best idea is to go out and buy those companies where lightning has already struck. Everyone is looking for a £5bn to £10bn acquisition. They're not looking for a mega merger any more, they are looking for the next big oncology drug, for example, and buying smaller companies is the smart way to grow."

According to Mr Borho, those large companies are still prepared to pay high premiums for the right drug despite the political ire towards drug prices.

One example is the high price Pfizer (US:PFE) paid for Medivation in August 2016. Just months earlier the company's shares plummeted due to a campaign waged by presidential hopeful Bernie Sanders in Congress against the high price of its prostate cancer drug. Pfizer acquired it just five months later for $14bn - $81.50 a share - paying 3.1 times the price it hit at the height of the scandal.

Mr Sanders criticised Ariad Pharmaceuticals for its pricing of a leukaemia drug. The company was bought months later by Takeda (4502:TYO) and the shares skyrocketed from $4.37 in January 2016 to $24, showing that negative sentiment helped rather than hindered dealmaking.

Worldwide Healthcare invests in healthcare companies, including hospital groups, life science tools and diagnostics, as well as biotech and pharma companies. The repeal of the Affordable Care Act could pose a risk to hospitals and insurers, so hospital companies such as HCA (US:HCA), which accounts for 3.1 per cent of Worldwide Healthcare's assets, tanked in the weeks following the election.

But HCA has since recovered that ground and the response of hospital stocks to Trump's plans has been surprisingly muted so far. That could be due to market scepticism about the likelihood of the act coming to pass. The curtailment of Medicaid - the insurance programme under which Americans receive healthcare - is also only due to commence after 2020.

Mr Borho is determined that a less restricted market could benefit from Trump's healthcare policy, while tax reforms could hand additional cash to many healthcare companies. And even if healthcare stocks are punished, healthcare services and distributors make up just 12 per cent of the trust's portfolio.

Worldwide Healthcare also has 14 per cent of its assets in emerging market healthcare stocks, which are affected by different factors. Mr Borho is keen on the Chinese and Indian drug and healthcare markets, in particular Indian biotech companies with good pipelines that target niche areas.

Emerging market holdings include Chinese pharma group Luye Pharma (HKG:2186) and Indian stock Ajanta Pharma (AJANTPHARM:NSI).

 

WORLDWIDE HEALTHCARE TRUST (WWH)
Price:2,410.9pManager start date:1.02.13
AIC sector:Sector Specialist: Biotechnology & HealthcareNAV:2,445.7p
Fund type:Investment trustDiscount to NAV:1.25%
Market cap:£1.1bnOngoing charge:1.49%
No of holdings:84*Gearing:11%
Set-up date:28.04.95More details: worldwidewh.com

Source: Morningstar, as at 10.03.17, Trust fact sheet, as at 31.01.17

  

Top 10 holdings%
Merck & Co4.6
Boston Scientific4.5
Wright Medical4.3
Alexion Pharmaceuticals4.2
Biogen 3.7
Incyte3.4
HCA3.1
Eli Lilly & Co 2.8
Regeneron Pharmaceuticals2.5
Allergan 2.5

Source: Frostrow Capital, as at 31.01.17

 

Geographic exposure %
North America 65.6
Europe14.8
Emerging Markets 14.0
Asia 5.6

Source: Frostrow Capital, as at 31.01.17

 

Performance (% cumulative total share price returns)

6m1yr3yr5yr10yr
Worldwide Healthcare Trust 19.842.678.6238.4467.5
Sector Specialist: Biotechnology & Healthcare sector average 16.739.168.8207.1383.7
MSCI World/Health Care index5.911.328.0108.8127.8

Source: FE Analytics, as at 10.02.17