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Ill at Ease with Biotech? Prescribing #1 Healthcare ETFs

Zacks Equity Research

The recent carnage in biotech investing seems more vicious than anticipated. This hot corner of the broad U.S. healthcare market has seen many a correction before, but none seemed as rigorous as it looks now. The recent rout was instigated merely by a tweet — by presidential candidate Hillary Clinton.

Her tweet raised concerns over the over pricing on life-saving drugs. Questions over biotech pricing came on the heels of a 5,455% price hike (in about two months) of a drug called Daraprim, used to treat malaria and toxoplasmosis. This gigantic leap in pricing action was taken by a privately held biotech company Turing Pharmaceuticals (read: How Hillary Clinton Crushed Biotech ETFs with One Tweet).

Pricing issues in the biotech space has long been a concern. On the whole, branded drug prices underwent a rise of about 14.8% last year, as per research firm Truveris. There are several other drugs namely cycloserine, Isuprel, Nitropress, and doxycycline that have seen enormous price hikes this year, per the source. This along with overvaluation concerns led to a bloodbath in this otherwise soaring sector last week.

In fact, growing pains for biotech investing led the biggest related ETF iShares Nasdaq Biotechnology (IBB) to incur the largest weekly loss in seven years. Plus, investors should note that biotech stocks underperformed the broader market during the last four election cycles, as noted by Barrons.com.

Barrons’ analysis shows that the broader market indices including S&P 500, Dow Jones and NASDAQ composite gained 11%, 8%, and 18%, respectively, on average against 15% loss incurred by the NASDAQ Biotech index during last four election phases. In such a scenario, it is wise to take some rest off biotech stocks and ETFs, and instead spin your attention toward the more stable but equally promising broader healthcare ETFs (read: Guide to Inverse & Leveraged Biotech ETF Investing).

Why Broader Healthcare?

The broader healthcare sector is also loaded with potential. A whirlwind of mergers and acquisitions, promising industry fundamentals, plenty of drug launches, growing demand in emerging markets, ever-increasing healthcare spending and Obama care play major roles in making it a lucrative bet for the long term (read: Obamacare is Here to Stay: 3 ETFs to Buy).

Moreover, unlike biotech, healthcare ETFs are relatively defensive in nature and do not completely let investors down even in a broader market sell-off. In the latest biotech tumult, when ETFs like SPDR S&P Biotech ETF (XBI), Medical Breakthroughs ETF (SBIO) and BioShares Biotechnology Clinical Trials Fund (BBC) retreated in the range of 6% to 8% on September 25, most broader healthcare ETFs lost in the range of 2% to 3%.

As a result, Zacks Rank #1 (Strong Buy) healthcare ETFs could be in watch ahead, at least until the penchant for biotech investing returns. Investors should note that the following healthcare ETFs hold a Zacks ETF Rank #1 (see all Healthcare ETFs here).

PowerShares S&P SmallCap Health Care Portfolio (PSCH)
 
This ETF has delivered a spectacular performance in the broad healthcare world, returning nearly 25% so far this year and losing just 2.4% in the last one month overruling the biotech woes (as of September 25, 2015). The fund offers concentrated exposure to small cap healthcare securities. It holds 74 securities in its basket, with each security holding less than 4.61% share. From an industry perspective, about one-third of the portfolio is allotted toward healthcare equipment and supplies, followed by healthcare providers and services (28.3%) and pharmaceuticals (15.7%).

The ETF has amassed $268.5 million in assets and trades in a lower volume of about 40,000 shares per day, while charging a relatively low fee of 29 bps a year. The fund continues to hold a Zacks ETF Rank #1 with a High risk outlook.

SPDR S&P Health Care Equipment ETF (XHE)

This product looks to track the S&P Health Care Equipment Select Industry Index. Holding 73 stocks in its basket, each security accounts for less than 1.73% of total assets. This is often an overlooked fund with AUM of $51 million and average daily volume of about 5,000 shares.
 
From an industry look, healthcare equipment accounts for over three-fourth of the portfolio while healthcare supplies have a considerable allocation. The product charges 35 bps in annual fees. XHE gained about 18.6% in the last one year and lost 4.2% in the last one month. It was also upgraded from Zacks Rank #3 (Hold) to Rank #1 in our latest Rank updates.

iShares U.S. Medical Devices ETF (IHI)

This ETF follows the Dow Jones U.S. Select Medical Equipment Index with exposure to medical equipment companies. In total, the fund holds 52 securities in its basket with major allocations going to Medtronic Plc and Abbott Laboratories at 14.5% and 710.7%, respectively.

The fund has been able to manage about $708 million in its asset base while volume is moderate at about 100,000 shares per day on average. It charges 45 bps in annual fees and expenses.

This ETF was also upgraded from a Zacks ETF Rank #3 to Rank #1 recently. The product added 12.6% in the last one year and could be a nice pick for Q4. In the last one month, the fund lost 5.8% which was much lower than double-digit losses incurred by biotech ETFs.

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