Sector Insights: Healthcare

The US healthcare industry is massive, with healthcare spending accounting for over 17% of US GDP, which is relatively large compared with a 10% of GDP average for most developed economies. With expenditures estimated to reach $10 trillion by 2022 globally, the US has the highest healthcare expenditure per capita in the world and the heavily regulated sector has room for growth.

The Health care sector remains plagued with operational inefficiencies that make it ripe for disruption. As we have noted previously, we anticipate rapid advancements through innovations like CRISPR and mRNA. In our view, the revolutionary new technologies in the field of genetics engineering could present unique opportunities for above-average returns in the near decade.

Although some industries within the sector can be highly volatile, the less discretionary nature of healthcare spending makes the sector attractive especially during periods of (transitory) inflation. People are generally insensitive to prices when the well-being of loved ones is at stake. This reality makes the healthcare sector one of the least affected during periods of market downturn. During the worst days of the COVID-19 recession, the sector was one of the best performing sectors behind only the Consumer Staples, experiencing drawdowns of -28% peak-to-trough compared to -34% for the broader S&P 500 Index. Energy and Financials were harder hit at over -40% drawdowns. Going further back to the Global Financial crisis when the S&P 500 lost over 50%, Consumer Staples and Healthcare were the least affected sectors at -26% and -35% respectively. In fact, healthcare has been one of the best performing sectors over the last decade, delivering 17% annualized which outperforms the broader index and is behind only the Information Technology (IT) and Consumer Discretionary sectors.

Recently, investors— encouraged by a mix of government stimulus, changing work dynamics, accelerated digital transformation, and Fed actions—have embraced exuberance thus pushing valuations of mediocre businesses, especially in the high-growth tech sector, to record highs. Today, IT has a 29% weighting in the S&P 500 Index (up from 19% a decade ago) while Healthcare and Consumer Discretionary are at about 13% each.

We remain optimistic about the broader economic outlook as the world reopens. Alternative datasets confirm this: Google’s Community Mobility report shows traffic at most places is trending within +/-5% of the pre-COVID baseline, except for workspaces and public transport. The number of travelers going through TSA is about 90% of pre-COVID levels versus 45% a year ago. OpenTable’s report shows seated dining now within +/-15% of baseline, recovering significantly over the Summer. We continue to monitor Fed actions as we expect that a transition from low- to higher interest rates may tamper market euphoria, resulting in investors falling out of favor with the high-growth stocks.

As an active manager focused on delivering consistent returns with portfolios that are structurally sound against market adversities, our portfolio differs from group-think by overweighting this sector. Our investable universe today includes high-moat healthcare names like Zoetis (ZTS), Thermo Fisher (TMO), and InMode (INMD), to list a few; businesses that we believe are top-quality operating in the space. Unlike our benchmark index, healthcare accounts for about 40% of our portfolio and IT about 18%. 

An integral part of our process is to build structurally resilient portfolios focusing on high-conviction picks of exceptional businesses with long runway for growth that is backed by favorable macro tailwinds. We believe the resilience of the sector, the non-discretionary nature of healthcare spending, and the operational excellence of some of our high-moat holdings help position us for unforeseeable market conditions. 

Have a wonderful Thanksgiving!

The Xantos Labs Team