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Healthcare stocks: The case for providers vs. insurers

Hospital revenue has grown by nearly 8% year-to-date in 2024. While hospital and medical costs are aiming to moderate, what does this entail for healthcare stocks and the sector at large?

TD Cowen Senior Equity Research Analyst Gary Taylor joins Yahoo Finance Live to discuss the firm's top healthcare names.

"We came into the year saying we want to own the providers over the health insurers for the first half of the year, and anticipating by the time we pivoted to the back half, we'd be in a position to recommend payers over providers," Taylor explains. "We're currently in the first half of the year, obviously. We're still in the provider trade. Our favorite names are HCA [Healthcare] (HCA) — largest hospital company in the US — Acadia [Pharmaceuticals] (ACAD), which is one of the largest free-standing behavioral providers, and then also Surgery Partners (SGRY), which is an ambulatory surgery center company."

For more expert insight and the latest market action, click here to watch this full episode of Yahoo Finance Live.

Editor's note: This article was written by Luke Carberry Mogan.

Video Transcript

AKIKO FUJITA: TD Cowen out with a new note on the hospital services sector, finding hospital revenue grew up close to 8% year-on-year, driven by inpatient and outpatient activity. That firm notes that this year may seem some moderation. So what are the strongest plays for investors in this space? Let's bring in Gary Taylor, TD Cowen senior equity research analyst to discuss more. Good to talk to you today. Let's start by talking about this growth story. How much more runway do you think there is?

GARY TAYLOR: Hey, good morning. Thanks for having me. It's a good question. I think we are going to see hospital revenue growth moderate. And it's so important to us to track not just for the market cap and the sector that's the actual hospital or provider stocks, but you have exponentially more market cap, which is the health insurance companies. And these costs, this hospital revenue growth, this provider revenue growth is the medical expenses that the payers have to pay for. So it's really important to both those sectors.

Overall, I think there's one more really good month. I think February will be good. It's going to be driven by leap year. And then as we get into the rest of the year starting in March, the comps get so much more difficult that we expect we are going to see this revenue growth moderating for providers, and therefore the medical expenses moderating for the health insurance companies.

AKIKO FUJITA: You've pointed out in your note that you think this trade is in the late cycle right now. With that said, walk me through some of your top picks on the back of this growth.

GARY TAYLOR: Sure. Depends on time frame. Obviously it depends on risk appetite. But in the very near term, we came into the year saying we want to own the providers over the health insurers for the first half of the year and anticipating that by the time we pivoted to the back half, we'd be in a position to want to recommend payers over providers.

So we're currently still in the first half of the year, obviously. We're still in that provider trade. Our favorite names are HCA, largest hospital company in the US; Acadia, which is one of the largest freestanding behavioral providers; and then also Surgery Partners, which is an ambulatory surgery center company.

The only insurer that we've kind of bumped up into that top category this early in the year is Humana. And that's because Humana's had terrible news. They've cut their earnings guidance in half, the stock's gone down 40%, and we're opportunistically wanting to take advantage of that stock being lower.

AKIKO FUJITA: So for those who are watching this not necessarily following the trade so far, what's a good entry point when you think about some of those names that you just highlighted?

GARY TAYLOR: Yeah. Well, for the provider trade, I think it's a little late. So if you're a retail investor and you're looking at HCA, for example, HCA November was 225 going into its Investor Day. People thought the outlook was terrible. The stock's now at 310. This isn't a great entry point, in my view.

If you have a multi-year view, long-term investor, best company in the health care provider space, absolutely own the stock. Don't care much about entry point. But honestly, we'd like probably like to see that back at the 280, 290 range to be more opportunistic outside of just owning it for the next month or two.

On Humana, we think below $400 is pretty interesting. The stock's at $350. There's one more piece of negative news that could come out in April. The bear case is it would kind of take the stock to the 320 range. But the reality is we think Humana in 18 months is worth somewhere between 450 and 500. So if your dollar cost averaging entry point anywhere here in the next month or two at 350 or lower, we think that's pretty attractive.

AKIKO FUJITA: UnitedHealth, one of those names that you mentioned as one of the top picks. We got the announcement yesterday that the DOJ has launched an antitrust investigation into the company. How should investors be looking at that headline right now? And how big of a risk is it?

GARY TAYLOR: Yeah. Well, United's not one of our top picks right now. We are recommending the stock, but it's not one of our top picks. Honestly, what we're concerned right now really is more of the near-term fundamentals of the company. We think it's likely they missed the first quarter medical loss ratio. We do think there's at least mid-single digit earnings risk for United for 2024.

We don't think they've guided particularly conservatively. We'd be looking again to add to that a little bit lower heading into the back half of the year. But with respect to DOJ, I'm less concerned about it. Honestly, we see some political motivation here. We know there's some ties to the Senate staffers, senators, you know, that don't like health insurance in general, that particularly think United is problematic and some ties to the DOJ.

So honestly, it looks a little bit politically motivated. And just from a fundamental perspective, we don't believe there's a lot of markets where United would be violating traditional antitrust horizontal standards. So to make any real case is going to rely upon some of the more novel vertical theories of harm that the FTC and the DOJ have promulgated. And honestly, they've been pretty unsuccessful with those in the courts of late.

AKIKO FUJITA: Gary Taylor, TD Cowen senior equity research analyst, good to talk to you. Today. Appreciate you stopping by.

GARY TAYLOR: Great. Thanks for having me.