Health sector robust, but picking stocks still takes care Even experts say selecting good companies is getting tougher as global markets shift
ANDREW ALLENTUCK
10/20/98
The Globe and Mail
Metro
In the current meltdown of shareholder value on investment markets around the world, drug and other health care shares are almost the only stocks that are holding their own. That's indicative of the health of the industry, which appears destined to thrive on others' ills.
The performance of the health sciences and pharmaceutical sector is stunning. In Canada, the average equity mutual fund fell 18.1 per cent for the year ended Sept. 30. Yet, the average health science and pharmaceutical sector fund rose 27.2 per cent in Canadian-dollar terms.
Is it time to plunge into the health sciences sector? Not necessarily, for picking health care and biotechnology stocks is a demanding task. The investor has to figure out which drugs under development will cure diseases, gain market share against other drugs, not lead to devastating lawsuits, and leave a decent reward for shareholders.
Then there's figuring out which medical devices are hot. There are also drug wholesalers, hospital administrators and more to consider.
Brian Stansky, a vice-president of T. Rowe Price Inc., manages the $247-million Green Line Health Sciences Fund, which was up 22.4 per cent in 1997 and still up 11 per cent for the 12 months ended Sept. 30, the end of the worst quarter that equity markets have suffered in a decade.
"The core part of our fund is the pharmaceutical industry," Mr. Stansky says. "It's one of the best industries around because an older population demands far more drugs and other kinds of health care. Add to that the pace of discovery. The ability of companies to come up with life-saving and life-enhancing products is accelerating. In Western nations, people give priority to health care."
Mr. Stansky is moving money from the small players of the business -- mainly biotech firms with bright ideas, a drug or two on the market and a lot of risk -- to drug majors and very large biotechs that have visibility and predictability of earnings.
Among his top picks are such large-caps as Pfizer Inc., the maker of Viagra ; and Schering-Plough Corp., maker of a successful cholesterol control drug called Lipitor.
John Schroer, senior vice-president of the Invesco Funds Group in Denver, runs, among other things, the AIM Global Health Sciences Fund, up 21.9 per cent in 1997 and still up 25.2 per cent for the year ended Sept. 30. He believes that the health care industry is bound to thrive, though he worries that picking good companies is getting tougher.
"There has been a shift, and in order to be competitive globally, the critical mass or size of a drug firm has increased by an order of magnitude," he says. "To be successful, a firm needs tens of billions of dollars of capital and revenue. While in the past, a firm could develop a drug for a single indication and use earnings from it to expand regulatory approvals for other indications, that's can't be done today. You have to develop the drug for many indications, navigate it through critically important U.S. Food and Drug Administration regulatory pathways, and sell the product around the world."
Mr. Schroer is refining his portfolio to focus on big drug firms, large makers of medical devices, and drug wholesalers. He owns no hospitals, no rehabilitation facilities and no nursing homes.
"Reimbursement is a major problem in the U.S. and over the past few years, investors have been discovering that many firms were nothing more than 'chain letters,' " he says. "High stock prices drove acquisitions, which drove up stock prices and so on. Now that stock prices are down, the firms can't do acquisitions and [are] performing poorly."
On Mr. Schroer's list of top picks are Pfizer; Merck & Co. for its strong list of cardiovascular drugs; Eli Lily and Co. for drugs for treating depression and schizophrenia; American Home Products for drugs for female hormone therapy; and biotechs Medimmune Inc., which makes a drug for treating widespread respiratory illness in premature babies, and drug wholesaler AmeriSource Health Corp., which has high returns on capital.
He also favours Guidant Corp., which makes pacemakers and implantable defibrillators, devices that should have a large market among the 400,000 patients in Western countries who are diagnosed each year with congestive heart failure. Last but not least, he thinks Sofamore Danek Group Inc., an industry leader in implantable spinal orthopaedic devices, has a bright future.
Picking health care stocks remains the work of the informed. Those in the health care field may have insights into products and their makers; everyone else is reduced to receiving information in the press and other forms of mass distribution. Hot tips aside, what makes an investor successful in this sector is understanding the significance of information.
If that's daunting, then Canada's half dozen sector mutual funds specializing in health care are an alternative. According to Duff Young, president of Toronto-based research firm FundMonitor.com Corp., sector funds tilt one's portfolio toward the industry, though at the cost of accepting substantially more volatility than is characteristic of diversified equity portfolios.
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