Healthcare set to recover as ‘quality’ focus returns

It hasn’t been a great year for the healthcare sector, whether due to company-specific issues or the pressure of a strong Aussie dollar holding back what are predominantly overseas profits.

Overall, the healthcare index is up 9.7 per cent for the year, but that’s a far cry from the rest of the market. The S&P/ASX 200 Index is up 24.5 per cent and the All Ordinaries Index is up 26.2 per cent. That’s a rough underperformance of 15 per cent, give or take a few percent.

Fund manager T. Rowe Price last week highlighted the attractiveness of the sector after high-quality healthcare stocks were sold off during the pandemic. Head of Australian equities and portfolio manager Randal Jenneke believes the sector was hit hard and is trading at relatively cheap multiples in comparison to the rest of the market.

In this article we’ll look at the healthcare sector and any potential opportunities.    

Ranking market sectors by yearly performance, healthcare has clearly underperformed despite the pandemic forced lockdowns causing the cancellation of elective surgeries. The index returned a positive 9.7 per cent.

It’s the opportunity lost that is rather painful. You’d think with such defensive characteristics and high-quality brand names involved in the pandemic, the sector would have done reasonably well. It didn’t. Over the calendar year 2020, the S&P/ASX 200 Healthcare Index (XHJ) was outperforming the S&P/ASX 200 Index until mid-November 2020, when it began to decouple. 

Why did the healthcare sector underperform at a time when global vaccine distribution was starting to roll-out and Covid-19 cases were dropping?

From the start of December 2020 until mid-March 2021, healthcare was sold off by roughly 14-15 per cent. Looking at the table above, the sell-off appears widespread throughout the sector and is indiscriminate. The only two companies to convincingly survive the sell-off were Pro Medicus (ASX: PME) and Clinuvel Pharmaceuticals (ASX: CMV), rising 53.2 per cent and 10.9 per cent respectively over the period. Both rises were underscored by solid half-year results and a series of major contract wins.

On the flip side, market leaders such as CSL, ResMed, Ramsay Healthcare and Cochlear were actively sold off irrespective of fundamentals and company results.

What was occurring was an unwinding of the “Covid-19 beneficiary” trade. That is; stocks that benefited from the pandemic or which had defensive earnings.

It was largely driven by positive vaccine results from Pfizer-BioNTech which resulted in a significant drop in Covid-19 cases among the elderly. News that drug pharma companies would soon begin global vaccine distribution drove investor and consumers sentiment higher, as a sign that the end was near, or at least nearing. And so, the unwinding began.

High-quality stocks such as CSL were sold off by almost 18 per cent, and “Covid losers” such as the big banks were bought.

Here’s what they say:

• Ord Minnett has an “accumulate” recommendation with a target price of $3.10. The broker says the company is “a mid-to long-term opportunity, given the potential challenges surrounding the pandemic in the short term.” An additional agreement should be favourable for the share price.

• Macquarie has an “outperform” recommendation with a target price of $3.20. The broker is positive on the company’s outlook and says “Polynovo is well-positioned to increase its share within existing indications. Moreover, entry into new indications with sizeable markets, such as chronic wounds and hernia, should support growth over the medium to longer term.”

While both brokers are positive on the company, investors need to be aware that Polynovo is announcement-driven and carries with it significant risk. But on the positive side, the short-term uncertainty relating to the pandemic is subsiding.

Ishan Dan

Ishan is an experienced journalist covering The Inside Investor and The Insider Adviser publications.