Want a prescription for investing success? Check out Big Pharma companies, biotechs, and other healthcare stocks.
The healthcare sector has been on a hot streak, trouncing the broader market, and there are several reasons that outperformance could continue for the foreseeable future.
The State Street Health Care Select Sector SPDR exchange-traded fund, which owns a mix of drugmakers, insurers, and medical device companies, has climbed 17% over the past three months, handily beating the S&P 500's 2.5% gain.
The healthcare sector is viewed as a flight-to-safety trade, because of its predictable earnings, favorable demographics, and high dividend yields. That stability helps protect healthcare stocks from big drops when the broader market stumbles.
But it is also starting to show signs of faster growth than in the past as well, due to GLP-1 drugs and recent cancer treatment breakthroughs from Moderna and Merck.
Biotechs stocks have stood out especially, partly because of increased takeover activity from the likes of Eli Lilly, GSK, and Gilead Sciences and the expectation of more mergers to come. The iShares Biotechnology ETF has surged 27% over the past three months.
The mix of stability and solid growth prospects explains why JC O'Hara, chief technical strategist at Roth, says the sector still has room to run.
"While history does show that healthcare carries defensive characteristics, we also find plenty of offensive episodes for the sector inside bull markets," he wrote in a report Thursday.
In other words, the healthcare sector can rally along with-and occasionally even outperform-the broader market when stocks are heading higher.
"At this point in the cycle, Health Care may offer the best of both worlds-insulation if volatility spikes this fall, while still fully participating in the current equity uptrend," O'Hara added.
He pointed to three healthcare ETFs in particular that have rallied recently and could have more upside: the Invesco S&P 500 Equal Weight Health Care ETF, iShares U.S. Healthcare Providers ETF, and the State Street SPDR S&P Pharmaceuticals ETF.
O'Hara added that Moderna and Humana are top-ranked stocks in Invesco's fund. Agilon Health, which works with primary-care physicians focusing on seniors, and Hinge Health, a virtual physical therapy firm, look attractive in the iShares fund. Smaller drug companies Veradermics and Corcept Therapeutics are two notable holdings in the State Street fund.
Other strategists also say healthcare stocks will keep rallying-particularly as the market broadens beyond the artificial-intelligence and tech trade. Gargi Chaudhuri, chief investment and portfolio strategist for the Americas at BlackRock, told Barron's that investors will likely look to healthcare stocks as quality companies that offer big dividends.
Pfizer, for example, pays a dividend that yields nearly 6% while Medtronic yields 3.1%. The State Street healthcare sector ETF has a dividend yield of 1.5%, compared with a yield of 1% for the S&P 500.
Sara Araghi, a portfolio manager with Franklin Equity, said investors are fishing for bargains in the sector, lured by the fact that an aging population in the U.S. and other developed markets should boost demand for drugs.
What's more, the use of AI could lead to more efficient drug discovery and other benefits, she said. That could boost profit margins.
Valuations remain attractive too. State Street's healthcare sector ETF is trading for just under 18 times earnings estimates for 2027, a slight discount to the S&P 500's multiple of around 19. And that's despite the fact that the sector's earnings are expected to rise 22% next year compared with forecasts of about 15% for the S&P 500.
So healthcare should be able to withstand any volatility tied to macro events. And it is primed for more gains, thanks to solid fundamentals and the likelihood of more mergers ahead. Add all that up, and it's easy to see why the prognosis for healthcare stocks looks promising.