Why Healthcare Is Not Defensive

Includes: HLS, KND, SEM
by: Honne Capital

Skim over these articles:

20 Healthcare Stocks With Strong Sources Of Profitability, by Kapitall

Protect Your Portfolio With These 15 Defensive Healthcare Stocks, by Aggressive Dividends

What’s the problem with their logic? Not only are they are driving while looking out the rear-view mirror, but there’s also a dagger mounted on the steering wheel, pointing at their faces. From the latter:

How do we settle on which healthcare companies to add in our portfolio? Below are the filters and ranking methods:

  1. Healthcare sector
  2. Price greater than $1
  3. Volume above 10,000 shares daily
  4. Current fiscal year estimate equal or greater than 8 weeks ago
  5. USA company
  6. Top 15 stocks according to the Portfolio123 value ranking method (min score 80 out of 100)*

It’s a simple trading strategy that looks for value stocks, which can be a good defensive move, within a defensive sector.

Has this previously been a profitable strategy over the last 10.5 years? ...

This translates into a compound annual growth rate of 21.27%.

A robustness check picks over 550 random entry points with 12-month holding periods to make sure we didn’t simply ‘cherry pick’ the best results. It too gives an average annual gain of 21.19%, which is 18.12% higher than the market.

So a strategy that has generated 21.27% compound annual returns in the past 10.5 years is likely to continue doing so? Not! I love betting against people who use systems that are too general. There’s not much risk that I’ve overlooked something. It’s usually the other guy who ignores important details.

I think there are billions of dollars positioned the wrong way in healthcare stocks because traditionally they have been so defensive. In 2009 and 2010, billions of dollars were positioned the wrong way with people underestimating Apple (NASDAQ:AAPL). Also, billions of dollars were positioned wrongly in Chinese ADRs. Will 2012 be the year that healthcare stocks get crushed? Stocks do tend to react preemptively to adverse events.

The balance sheets of some publicly traded healthcare facilities look absolutely ridiculous. There’s zero tangible equity at HealthSouth (NYSE:HLS) and Select Medical (NYSE:SEM). Kindred Healthcare (NYSE:KND) isn’t much better.

Disclosure: None