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Health Care ETFs Are Breaking Out, But Political Risks Linger In 2020

ETF Professor

The health care sector has shed its laggard ways as highlighted by the Health Care Select Sector SPDR (NYSE: XLV). The largest exchange traded fund dedicated to the S&P 500's second-largest sector weight is up nearly 7% this month and is flirting with a year-to-date gain of 15%.

While health care stocks have certainly snapped out of the slumbers they were in for much of this year, some of the same issues that hampered the group in 2019 aren't likely to go away next. Not with 2020 being a presidential election year.

“Headline risk will be high due to the overhang of opioid litigation liabilities, Affordable Care Act (ACA) court decisions and election rhetoric,” Fitch Ratings said in a recent note.

Why It's Important

For XLV components like Johnson & Johnson (NYSE: JNJ), opioid litigation risk is palatable because those companies have the balance sheets to withstand the litigation and some if not most of that risk is baked into the stocks.

The real issue could be renewed momentum for Medicare For All in a presidential election, momentum that would hamper managed care providers such as UnitedHealth (NYSE: UNH), a major XLV holding. That was a headwind for managed care stocks this year, but it has evaporated in recent weeks, as highlighted by UnitedHealth being up almost 14% this month.

Additionally, Fitch believes corporate credit rating downgrades are likely to outweigh upgrades in the health care space next year.

“Business models may continue to evolve given the slowly changing payment landscape,” according to the ratings agency. “Downgrades are likely to outweigh upgrades, with 55% of ratings currently having a Stable Outlook, 29% a Negative Outlook, 9% a Positive Outlook, with the remainder 'CCC' and below rated issuers, to which Fitch has elected not to assign an Outlook.”

What's Next

As for what's next, if health care investors are fortunate, it will be a lack of political risk and waning enthusiasm for Medicare For All, but those could be big asks.

“Stalled progress on major pieces of healthcare legislation, due to political discord in Washington, will insulate issuers from the effects of any new policy measures on profitability during 2020,” said Fitch. “However, we expect healthcare to be one of the most important policy issues for voters in the 2020 Presidential election. Leading up to the Democratic primary, the issue of access and affordability is being hotly debated but, even if a Democrat wins, there is likely only an outside chance of policy change having dramatic implications for profitability.”

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