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Some Value Remains With HealthCare ETFs

This article was originally published on ETFTrends.com.

Compared to other sectors, healthcare was sturdy in 2018 and while the sector looks close to being fairly valued, the group could offer more upside this year. The Health Care Select Sector SPDR ETF (XLV) , the largest healthcare ETF by assets, gained 6.30% last year.

XLV allocates about two-thirds of its combined weight to pharmaceuticals and biotechnology stocks. There are other catalysts to consider, including that the U.S. economy is moving into the late-cycle phase, overall growth may slow and signs of an economic slowdown could pop up. Consequently, investors may also turn to defensive sectors that are less economically sensitive, such as health care.

While the healthcare sector is not necessarily stretched on valuation, stock pickers ought to be selective in the group, which is the second-largest sector weight in the S&P 500.

“Overall, we view the healthcare sector as slightly undervalued. The median stock we cover trades at a 7% discount to our fair value estimate. Not surprisingly, we see comparably few buys in the sector, with only 6% of our coverage rated 5 stars,” said Morningstar in a recent note.

American will still need healthcare services, regardless of how the economy is doing. Investors can also capitalize on this all-weather trait through healthcare-related ETFs, such as XLV, the Vanguard Health Care ETF (VHT) and the iShares US Healthcare ETF (IYH) .

Pharma Power

While considerable political attention is likely to be paid to drug prices, pharmaceuticals stocks could offer some upside. Pharmaceuticals is usually the largest industry in cap-weighted healthcare ETFs, such as XLV and VHT.

“We see a relatively higher share (9%) of 5-star stocks in the drug manufacturing industry. While concern over drug pricing pressures has abated to some extent, we believe the market has still placed too much pressure on potential drug pricing concerns, opening up a couple of significantly undervalued stocks,” according to Morningstar.

There will also be some attention paid to the Affordable Care Act, also known as Obamacare, following a Texas judge ruling the law unconstitutional in December. However, it is unlikely the issue will be disruptive enough to plague healthcare stocks and ETFs this year.

“Another development that could weigh on healthcare stocks is the potential repeal of the Affordable Care Act in the U.S., a concern that resurfaced after a Texas judge ruled it unconstitutional in December,” said Morninngstar. “We expect appeals to delay any impact, but revoking the ACA would likely create the most pressure for the healthcare services companies.”

For more information on the market sectors, visit our sector ETFs category.