In extraordinary times, you want to be able to tuck up investors safely in a sector that will survive recessions and financial storms. Is healthcare that sector?Whether the economy is in boom or bust, people don’t vary going to the doctor or being admitted to hospital. Sales of drugs are almost economically inelastic – and in an ageing society, investors can look forward to a secular increase in demand.
Axa Framlington Health has not entirely sidestepped the chaos in markets – it is down nearly 13% over the past year – but during a flight to safety it’s not a bad place to be.
Take, for example, its largest single holding, Gilead Sciences. It’s a biotech company that is the only serious competitor to GlaxoSmithKline in the HIV therapy market. It is increasing its market share with a combination drug that enables HIV users to reduce the volume of medication they take, increasing the chances that they will stay the course.
The incidence of HIV, one presumes, is zero-correlated to economic upturns or downturns. Indeed, over the past month shares in Gilead have risen from a low of $37 (£23) to hit $45, at a time when virtually everything else has been in freefall.
“It’s a very insulated, non-economically sensitive stock that we like at the moment, says Gemma Game, the Axa Framlington Health co-manager (lead manager is Deane Donnigan).
The portfolio has in the past had positions of up to 9% of the fund in a single stock, but in volatile markets, Game says, it makes sense to diversify more.
The fund has 80 stocks, and nothing is currently more than 3.5% of the portfolio. “In these markets, it’s a good idea to have a diversified portfolio without too much stock-specific risk,” says Game. “Right now we don’t have screamingly high conviction on any particular names.”
Some may be surprised to hear there are even that many healthcare stocks to put in a portfolio. But Game says her investment universe totals more than 500 stocks, and that Axa Framlington sees several hundred of them each year. Apart from the giant big pharma stocks there are the biotechs, device manufacturers, healthcare management providers and pharmacy benefit managers.
That last group – one that Game is particularly keen on – are American companies that focus on trying to rein back the extraordinary prices consumers pay for their drugs. So a healthcare fund can benefit even if there is downward pressure on drug pricing. “In the US, these companies are helping to drive a shift from branded to generic drugs,” she says.
Inevitably, most of this fund is invested in American-domiciled stocks. The MSCI Healthcare index is about 63% America, and the fund is currently at 73%.
Over the past year, that has meant heavy going for the fund manager, who has been fighting a falling dollar. But in recent weeks there has been a sharp improvement as that headwind has turned into a powerful tailwind.
The £240m fund is sterling-based, so Game says Axa Framlington pays attention to the dollar risks, although it’s only a small part of the investment equation.
Like most managers, her first consideration is bottom-up fundamental research, and it helps that in a highly technical market such as this she has a natural sciences degree from Cambridge University.
“Our focus at the moment is very much on cashflow-generative companies. We have fewer blue-sky-type situations in the fund than we might have had in the past. Many of the stocks we like at the moment are about cost-containment rather than new technology.”
That said, the biggest overweight in the fund is biotechnology. Most of the stocks in the fund’s top 10 are not names that will be familiar to most retail investors – no Glaxo or Johnson & Johnson, lots of Gilead, Celgene and Genzyme.
Genzyme is particularly interesting. It focuses on what is known in the trade as “orphan diseases” – those that are life-threatening but not pervasive enough for the big pharmaceutical companies to want to invest heavily in.
“Genzyme will produce therapies and drugs for conditions in which maybe only a few thousand people across the globe will be affected,” says Game. “They are the sort of diseases that slip under the radar of big pharma. But that also means they are in a strong position when it comes to pricing.”
In the past, as soon as a biotech has emerged with a decent drug range it has been snapped up by one of the majors, which is another reason why many managers have focused in this market. Whether that will continue to happen is less certain now that the cost of capital is rising.
Genentech, for example, is the subject of a bid from Roche at $89. Initially it went to a premium of $98 and Axa Framlington sold out. But as the credit crunch hit and the market started to doubt Roche’s ability to afford the $44 billion bid, the price slipped back to $72. Now Game is buying again.
She says that the prospects for takeovers in general, and the Roche bid in particular, are still positive. Most big pharma stocks are cash-rich and patent-poor, so the dynamics of acquisitions are not about to go away. Indeed, it’s becoming clear that chief executives regard recent valuation compression as an opportunity to begin acquisitions.
Big pharma is itself warming up after years in the investment freezer. Nothing says “safe haven” more than a giant drug producer. But, as Game points out, big pharma stocks are highly liquid, so many have been swinging about wildly as certain investors have sought to obtain cash.
The big question mark hanging over big pharma is Barack Obama. A landslide now looks likely. Will that inspire the new president to tackle the absurd overspend on healthcare in America? Game is not so sure. “As we were getting closer to the election, we were worried that big pharma might come under the political spotlight. But it’s clear the economy is crowding out everything else,” she says.