ETF Update: Good Prognosis for Health Stocks in a Bad Market?

Signals remain negative for the overall market in US equities. There is plenty of concern about economic fundamentals and corporate profits.

We look for verification in the message from the market. It is helpful to look at macro measures and also at individual stocks. Sector ETFs reflect an important middle ground. We look at each sector for the [T]rend, for [C]ycles and we add a bit of [A]nticipation. We call this our TCA-ETF model. It can be used to spot emerging trends, or to gain a better perspective on the overall market. (The complete current rankings are at the end of the article, along with an explanation of our methodology).

Two Strong Themes

Our look at the overall picture leads us to continue a bearish market stance. Thursday's employment report did not quite match our negative expectations, but if you looked at the details, it was close. Our sector ratings show little leadership. It is a time to hedge positions, and we are doing so.

Health stocks are a bit different. Let us look at the Nasdaq Biotechnology Index Fund (IBB). Here is the chart:

We normally do a profile of our featured sector. This week we draw upon ETF expert Don Dion who writes as follows:

IBB tracks the NASDAQ Biotechnology Index, comprising companies with at least a $200 million market cap. IBB has 123 holdings and an attractive 0.48% expense ratio. The top industry allocation in the fund is Medical-Biomedical/Gene, with a 63.29% weighting, followed by Medical-Generic Drugs and Medical-Drugs, with 11.34% and 9.63% weightings, respectively. While the fund tends to be top heavy—its largest component, Amgen (AMGN), makes up 10.77% of the fund—IBB’s components are spread throughout the capitalization spectrum. More than 43% of IBB’s holdings can be classified as either giant or large cap, while 28.5% are medium and 27.75% are small or micro. Overall, the top 10 holdings in the fund are allocated nearly 52% of the fund’s assets.

Mr. Dion explains our own perspective on ETF choices -- trying to get more diversity while finding the best sectors. We urge readers to check out his entire article -- excellent work.

The general pattern is similar to other health sectors that are positive in our rankings. There is a strong fundamental reason that most do not understand. The entire health sector has been under pressure because of concern about the Obama health initiatives. We have written about this issue, suggesting that the concern was overstated.

The evidence is emerging to support our viewpoint. A major health initiative will not get past the 60-vote cloture threshold in Senate. Despite the party switch by Arlen Spector and the election victory by Al Franken, there are Democrats missing in action due to health reasons. There are also some Democrats who do not buy into the big proposals.

Some have speculated about an end run by the Dems, slipping through a health initiative via the budget reconciliation process. This method would only require a simple majority, but there are limitations about what sort of changes could qualify for this treatment.

Our position is described in detail in this fine article by veteran Washington observer Morton Kondracke. He writes as follows:

If an attempt is made to pass health reform under "reconciliation" rules -- requiring just a simple majority vote -- Senate Budget Chairman Kent Conrad, D-N.D., told me, the bill would be so pared down, "you'd be left with Swiss cheese."

Read the entire article to get his full perspective, and check out our Election Stocks site for continuing coverage of the impact of politics on the markets

Weekly TCA-ETF Rankings

Our weekly ratings are from Wednesday, a day earlier than usual because of the holiday. The performance for last week was down about 1.5%, helped by our short positions (via inverse index ETFs). This beat the S&P 500 by about one point.

Based upon the narrow leadership and ratings on the inverse ETF's, we have continued our official bearish position in the Ticker Sense Blogger Sentiment poll.

Here is the table for the most recent trades and current ratings as of Thursday's close:

Note for New Readers

Our weekly ETF Update is designed to assist both investors and traders interested in ETF's and Sector Rotation. Before turning to the current rankings, let us undertake a review for readers new to this series.

Our Method. In this past article, we described our basic methodology and why we believe the rankings are useful for fundamental traders and technical traders alike. While we urge readers to check out the entire article, the key point is that ETFs pose challenges and opportunities different from investment in individual stocks. The fundamentals may be more difficult to assess. Even with a good grasp on fundamental trends, there is a lot of technically-based trading in ETFs. This means that those trading with a fundamental approach (and we do this as well) want to monitor the "hot money" moves. Here is an article on that point.

The system synopsis. We look at Trending sectors, Cyclical Sectors, and build in an element of Anticipation for both entry and exit -- thus the name of the model, TCA-ETF. While we do not reveal the exact methodology for spotting trends and cycles, the system is not a "black box." The basic elements are used by many, and widely reported. We even discuss the need for human analysis as opposed to black box trading.

We report the rankings each week, now on the weekend with a one-day delay, using the Thursday output from the model. We monitor and trade this daily, and offer a free report (request via the email address on the top left of our site) for those interested in our weekly trading program.

Comments

[John Lounsbury:]

Jef f- - -

Good discussion. I agree that health care companies are not likely to be wounded by whatever health care actions are taken in Washington. I continue to have investments in the sector (including family members and clients).

I have been reading your weekly ETF momentum ratings. I have a related process, only monthly. I have not been making significant investments using the process for about a year because volarility was incompatible with a monthly ranking process. In the years preceeding 2008 it was a very successful strategy.

Jul 06 11:28 AM

[donzelion:]

If healthcare costs amount to roughly 18% of GDP (just north of 1 out of 6 dollars spent), yet healthcare stocks account for about 12-14% of the value of the S&P 500, that suggests ample investor fears weighing down the sector.

What investors ought to take into account is the revenue stream from emerging markets - particularly in view of consolidation. Under WTO/TRIPs agreements, Brazil, India, China, and others (esp. smaller parties) can impose compulsory licenses on pharms that effectively wipe out the profit margins. However, as pharms consolidate, it becomes harder and harder for governments to impose terms of trade (and as a result, pharms and device makers should be able to increase margins in emerging markets, which were easy to write off during the blockbuster dependence years).

Whatever happens in the next 2-3 quarters will be far less important over the long-term than the ability for the biggest players to profit from international trade in markets that have never had the support of U.S. politicians or patent protection regimes.

Jul 06 12:20 PM

[Doc 224899:]

The healthcare sector IS vulnerable to the Healthcare Reform Package. Although the president scoffed and snorted in an arrogant and dismissive manner when he was asked if he was concerned that a government health insurance plan might put private insurers out of business, he didn't answer the question. There is no legitimate answer to the question that doesn't spell doom for the private healthcare sector, and for providers of all products and services in the sector that come from corporations that need profits to survive.

The president's arrogant and dismissive attitude towards the future of private healtcare in general should chill the blood of any investor interested in the sector. It looks like the mirror image of Hillary Clinton's reaction to questions about the fate of private healthcare when she trotted out a similar reform package in the 90's.

If they actually cared about providing healthcare services to the uninsured millions, they'd create a network of Charity Hospitals and Charity Clinics, staff it with doctors and nurses, give a blank check to the hospital administrators for supplies and equipment, and shield the entire system from malpractice claims. Every time the question has been considered, Charity Hospitals and Clinics are the best and most economical solution. Since they aren't doing that, and haven't proposed it, they don't care about uninsured people getting healthcare services.

Since there is no talk of tort reform, and there's talk of limiting specialists' incomes while no talk of limiting the incomes of litigators, we shouldn't be looking for growth in the healthcare sector.

Jul 06 02:01 PM

[Tony Roberts:]

great article and I agree that Don Dion lays out a strong case for IBB. please keep providing SA great articles

Jul 06 10:03 PM