Morningstar’s investment management team is increasing exposure to healthcare across portfolios, with senior investment manager Mark Preskett arguing the sector combines structural growth with defensive earnings, and currently trades at “cheap” valuations.
“We’ve been adding to the position,” Preskett said. “Healthcare has structural advantages – the majority of profits are derived from the US, which has population growth of around 0.5%, but also an ageing population and higher drug utilisation. That supports a growth rate of around 5%, which we think is pretty attractive. On top of that, healthcare earnings are very resilient through the cycle.”
He pointed to historic data showing that for every 1% change in GDP, healthcare spending shifts by just 0.18%. “During the global financial crisis, healthcare earnings were actually positive in one of the deepest recessions we’ve seen in 20 years. That defensiveness is one of the reasons why we like it. We think its offering best value and the highest expected returns,” he added.
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Why it’s cheap now
Despite these characteristics, the sector has underperformed. Preskett said drug pricing investigations, the Inflation Reduction Act allowing Medicare to negotiate prices, and political threats of tariffs have weighed heavily. “All of this has really impacted the sector, so we’ve just been easing into it,” he said. “While other sectors look expensive – for example, financials have had a fantastic run.”
Morningstar has been adding exposure mainly via index trackers and ETFs. “We’re predominantly buying the L&G Global Health and Pharmaceuticals Index tracker, or low-cost ETFs,” Preskett explained.
“We’re not sure enough active managers can deliver alpha net of fees in this space. For our active allocations, we’ve been hunting out global managers with high weights to healthcare – managers like Morgan Stanley Global Brands, Trojan Global Income and Guinness Global Equity Income.”
He also highlighted that Warren Buffett recently took a position in UnitedHealth, which “is evidence there is value in the sector”.
However, while many fund managers have pointed to the opportunities in GLP-1 injections, which are being used to tackle obesity and diabetes, Preskett warned valuations in this space are now looking stretched pointed to the likes of Eli Lilly and Novo Nordisk. “Those two became very overvalued. Novo Nordisk is down nearly 50% from its peak, Eli Lilly has stabilised, but we still see Eli as overvalued even after the pullback,” he said.
Instead, Morningstar favours areas of the pharmaceuticals space. “Pfizer is probably the best idea now – it’s been really battered by changing attitudes to Covid vaccines and political noise, but valuations look compelling,” Preskett added.
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