Investors should consider pivoting their portfolios to health care stocks since the S&P 500 Health Care Sector Index (.HCX) historically has generated strong performance from May to October when compared to the broader market.
The health care sector represents approximately 13% of the U.S. equity market, says Todd Rosenbluth, head of exchange-traded fund and mutual fund research at New York-based CFRA Research.
"We think investors should hold at least that exposure," he says. "Historically, health care stocks have held up during volatile times for the stock market, and we just recently hit the seasonal weak six months."
Here's what you should know about health care investing:
- Why you should invest in health care.
- How to invest in the health care sector.
- Remember to rebalance your portfolio.
Why you should invest in health care
The sector also represents about 13% of the S&P 500 (.SPX), and people with a lower weighting in their equity allocation may find this to be a "good time to gain additional exposure to the group as health care is a defensive group," says Thomas Hayes, chairman of Great Hill Capital in New York.
"Defensive groups tend to outperform when the general market is weak or indecisive – as is historically the case from May through October (on an average seasonal basis)," he says.
The speed of the economic recovery from the global pandemic has taken "us into the transition from early to midcycle, and with that comes a shift in equity market leadership, which generally supports higher quality stocks in sectors like financials, materials, health care and industrials," says Jodie Gunzberg, managing director and chief institutional investment strategist at Morgan Stanley Wealth Management.
The tax reforms proposed by the Biden administration could also present opportunities, as his infrastructure plans include a variety of tax credits, incentives and fiscal appropriations, she says. These infrastructure plans could directly support growth health care, renewable energy, materials and research and development.
"Given health care in the U.S. is one of the most expensive in the world, changes from COVID-19 may drive a permanent shift in the importance of telemedicine and digital health in the sector that may provide both private and public investment opportunities," Gunzberg says. "However, we are watching certain factors, including leading indicators for the rising shift to telemedicine, flexibility in regulation, new digital health platforms, changes in spending patterns among funding sources, research and development spending, and investment flows."
Since the health care sector is a defensive industry with consistent returns that is generally uncorrelated with the overall stock market, the industry's stocks can provide diversification to a portfolio, says Stuart Michelson, a finance professor at Stetson University.
Health care stocks are also growing much faster than the economy because of the aging population, treatment advances for chronic diseases and conditions and technological advances in telehealth and remote monitoring. Health care is the second-largest sector in the S&P 500, it represents more than 10% of the Nasdaq (.IXIC) and five of the 30 stocks in the Dow Jones Industrial Average (.DJI) are health care related, he says.
How to invest in the health care sector
Most investors should invest 5% to 10% of their portfolio in health care, Michelson says. "Investing more can create undue sector risk in an investor's portfolio," he says.
Adding health care mutual funds and ETFs such as iShares Global Healthcare ETF (IXJ) and Vanguard Health Care Index Fund ETF (VHT) is a simple and low-cost way to gain exposure, says Mike Loewengart, managing director of investment strategy at E-Trade.
"As the market teeters around all-time highs and some jitters emerge among investors, health care could be one area of the market where investors turn to," he says. "Since names in the health care sector are generally needed in strong and weak economic times, the sector is considered defensive and has shown to be consistently durable during volatile periods."
During the past several decades, risk-adjusted returns for health care have been among the strongest of all sectors – mostly due to how well health care has performed during down markets, Loewengart says.
"While health care securities are more risky than say an investment in bonds, the sector could act as a ballast in an investor's portfolio when the market takes a turn," he says. "As we sit in this midcycle recovery phase, health care could be an area of opportunity given reasonable valuations. Keep in mind the sector is subject to government regulation that could be the cause for some unexpected hiccups."
Some other ETFs to consider include Health Care Select Sector SPDR Fund (XLV) since it has "high reward potential, modest risks and low costs relative to sector equity ETF peers," Rosenbluth says. "In addition, the technical trends are favorable, according to our analysis."
The ETF consists of many appealing stocks based on CFRA's fundamental analysis: Abbott Laboratories (ABT), Johnson & Johnson (JNJ), Medtronic (MDT), Pfizer (PFE) and UnitedHealth Group (UNH), he says. "These stocks also sport strong dividends providing downside protection. Rather than retreat, we think investors should take a more defensive approach. CFRA expects XLV to outperform the broader category in the next nine months based on our fund-level and holdings-level analytics."
Another option is to add the Invesco S&P 500 Equal Weight Health Care ETF (RYH) which has roughly equal exposure to large-cap companies as well as attractively valued and more moderately-sized Cardinal Health (CAH) and Laboratory Corp. of America Holdings (LH). RYH charges a higher fee than XLV – 0.4% compared to 0.12%.
Remember to rebalance your portfolio
The strategy of rebalancing over time requires discipline and you must be willing to sell what has gone up and buy what is out of favor, Hayes says.
"In simple terms, you are buying low and selling high – which is a simple axiom, but one of the keys to long-term success," he says. "Many investors chase what has worked in the recent past, extrapolating that it must continue into the future. In most cases, the herd buys after the bulk of the move is in the rearview mirror."
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