CIO tells WP how the sector marries growth potential and defensive value in a downturn
Everyone tends to get the “investability” of healthcare. We all have experiences in our families, sadly, of illness, treatment and appointments with doctors and specialists. It’s big business.
However, from a portfolio standpoint, many investors have suffered from “tunnel vision” for a while when it comes to the defensive strengths of the sector as markets plough on higher relatively uninterrupted.
But given the late stage of the business cycle, Elliot Johnson, CIO at Evolve ETFs, said its Evolve Global Healthcare Enhanced Yield Fund (LIFE) is opening eyes as to its ability to add robustness and diversification to a portfolio.
People understand healthcare is not a fad or a passing trend – and many are invested in a single stock – but the defensive value in investing in the sector is not always fully understood.
Johnson told WP: “The leadership in equities is so narrow now. It’s really large cap US tech stocks that are leading the market higher.
“When people hear that healthcare companies are a great way to diversify your risk, but still be in those blue chip names that you feel safe and comfortable with, that's when people start to think 'maybe this deserves a larger position in my portfolio than just one name; maybe I need to be in a category here'.”
LIFE has been the top-performing healthcare ETF for both one year and two years. It invests in the 20 largest global healthcare companies on an equal-weighted basis. It also has an active covered call overlay on up to one-third of the portfolio, which provides extra safety and pays 7% annual yield on a tax-efficient basis.
With many advisors positioning portfolios for a recessionary environment, Johnson is bullish on healthcare because of its suitability for those conditions. He believes there are two main reasons for this: healthcare’s sturdy historical market performance during a correction and demographic trends in the sector.
The former is relevant because we are late cycle, which doesn’t mean the market will come crashing down tomorrow – there is no timescale – but means that while you don’t want to get too defensive too early, you certainly don’t want to be too late.
With great growth prospects and defensive characteristics, Johnson believes healthcare is the place to go.
He explained: “If you look back to the correction of 2008, obviously everything sold off because of the credit crisis. But if you look at the S&P healthcare sub-sector, you’ll see that it held on for three months longer than the S&P 500.
“While the S&P 500 was selling off, healthcare held on, making new highs for another three months. And then when it did finally sell off, it sold off only two thirds as much, and recovered in two thirds of the time.
“That’s very important because it gives you more time to react when the market sells off and if you hold through the full cycle, your drop will be shallower and the recovery faster.”
With Evolve’s ETF also paying 7% dividend, investors are being paid reasonably well to wait out a correction, he added. “It’s a way to remove risk from the table without giving up upside if we continue to have the market rally further.”
The other reason why healthcare is a strong long-term option is the dynamics of demand. Baby boomers are 10 years older than they were in 2008 and consuming more healthcare than ever before as they get older.
The other factor within this is the growing emerging markets’ middle class, which has been growing and continues to grow faster than ever. This means more people have the ability to pay for healthcare.
Johnson added: “This is really the reason why our fund is a global fund and invests in the top-20 market cap pharmaceutical companies in the world, and that's because these are the companies that are able to bring their drugs to a global market.
“Typically, you know, these companies are also the buyers of new drug therapies, new innovations, and they end up adding them to their product shelf. A lot of times those innovations are produced in developed markets, but then these companies can sell to a global clientele.
“That’s why we're so excited about it. We don’t see these big, long-term demographic trends changing any time soon. We also think that there's a lot of resilience there. If we do enter into a recession, people are not going to give up spending on healthcare, they might spend less on more discretionary items, but healthcare is very non-discretionary.”