Why You Should Sell These Healthcare Stocks Before They Drop

by: Richard Saintvilus

In part one of this series, we came up with several technology stocks that I have deemed worthy of selling in anticipation of a market pullback. We have noted that their gains were due (in part) to the market's "rising tides." For similar reasons, in part 2 we identified five financial stocks that may see a near-term pullback. In this piece, we are going to look at some stocks within the healthcare sector that may suffer in the near term - not for any particular fundamental reason, but because it is just time for a market pause. As with the previous pieces, we started with some basic understanding.

You'll always know that you are in a bull market whenever each trading day follows one where records and weekly, monthly and yearly highs are always mentioned. Where earlier this week both the Down and S&P500 (NYSEARCA:SPY) reached key decade-old milestones and yet another on Friday as the Dow surged higher closing near its four-year high. However, this time it was the Nasdaq's turn after the index hit an 11-year high. This time the optimism was spurred job growth. The U.S. economy created jobs at the fastest pace in nine months in January and the unemployment rate dropped to nearly a three-year low of 8.3 percent, the government said.

Still not convinced we are in a bull market?

Consider this, across all of the sectors trading on the market, there have been 450 separate stocks that have recently reached 52-week highs. This is the highest reported total since last July. In 2012 so far, it seems to be an everyday occurrence. Aside from a company such as Apple (NASDAQ:AAPL), which continues to rise and will likely do so through the quarter, while looking across all of the indices, the signs of being overbought were apparent on a great majority of the stocks that are showing such momentum. A recent analyst suggested that 74 percent of stocks were over their 200-day trading averages. The question now becomes, is it time to be fearful in the market if you follow the preaching of Warren Buffett?

S&P500 YTD3.jpg

Clearly the year-to-date sector performance above shows that investors are not only excited about what lies ahead in 2012, but have become decisive about what industries matter the most. So again, with such early gains and with the broader indices having approached record territories, should investors be in a fearful mode and begin to lock in some profits as the bear market may just be around the corner? This question is not that difficult to answer if one has studied recent history.

Trading the sector gains

They say "a rising tide lifts all boats." There is unquestionable truth in this theory especially in the stock market as evidenced by this bullish run we are now seeing. So when it comes to stocks, we need to understand that a strong economy can propel even the most challenged business models.

In this article, the third in a series of looking within each sector, we are going to try to identify certain healthcare stocks that might be on the verge of a pullback and ways to possibly mitigate some risk and exposure to losses. The benefit of this is that if you are on the sidelines, hopefully you will be able to get an idea of a possible good entry point.

Trading healthcare

It seem somewhat sacrilegious to want to consider being bearish on healthcare stocks. I mean, it seems that we should be in favor of and support the companies that restore our bodies to health. But healthcare is one of those sectors that come with a lot of complexities and "snowflakes." Said another way, not all healthcare stocks are the same. The sector is made up of many different industries - from pharmaceuticals and devices to health insurers as well as hospitals - and within it there is a different dynamic.

Investments in this sector are affected by many variables, including positive trends related to demographics as well as negative trends related to reimbursement. But overall, from a valuation standpoint, they can present the sort of volatility to make your heart drop in one instance and make a quick profit in the next. So instead of delving into what companies to short or even consider that they may drop, we're going to look at 10 standouts that (for one reason or another) are a cut above the rest from service to management.





































What is interesting in looking at the chart above is that each of the companies is trading near its 52-week high as evident by the last column. Looking at this is realizing that while the fundamentals of each may be intact, they may succumb to any sudden pressure imposed by any bear market. Having said that, there are still some good gems out on the market - four of which are as follows:

Abbott Labs (NYSE:ABT)

Abbott Labs obtains a great portion of its profits from pharmaceuticals. Nevertheless, this is a company with excellent long-term growth characteristics and compelling drivers for future growth. The company's new stent platform is capturing share from the rest of its peers, and I believe many investors under-appreciate the quality and growth potential of Abbott's diagnostics franchise. With a solid long-term record of cash flow growth, a good return on capital, no major patent issues and manageable debt, I believe dividend-seeking investors stand to benefit a great deal from the standpoint of excellent income and tremendous growth.

The company recently announced plans to split into two separate public companies, with one focused on pharmaceuticals and the other on medical products. Abbott plans a tax-free distribution of shares of the pharmaceutical company to existing shareholders by the end of 2012. The businesses that are staying with Abbott are projected to have approximately $22 billion in revenue in 2011. These include medical devices, nutritionals for both children and adults, diagnostic products and generic pharmaceuticals sold outside the United States. The company is targeting double-digit annual earnings growth once the separation is complete.

Merck (NYSE:MRK) and Pfizer (NYSE:PFE)

Merck and Pfizer are interesting considerations here, because aside from the fact that they pay a respectable dividend, both stocks are sitting at 52-week highs. To me this has always been a sign to wait for the pullback. But with this being a new year and all, I've gotten a new perspective and as I've said previously and I'm putting behind some old myths.

Having said that, it remains hard to assess where either company is and where either might be going. Despite the positives in the stock, there are some concerns of both companies that are legitimate. Some of which has had to do with limited R&D pipelines. But despite all of that, I continue to believe that over the long term there will be some value in both stocks.

As big-cap drugs have been laggards for several years, investors have plenty of choice in the space. Much of what can be said about Merck can also apply to Pfizer and vice versa. However, Merck in particular offers a solid dividend payout and a relatively stable, if not exciting, business outlook. While drug companies for the most part have spent many years trying to regain investor trust, it may be time to reevaluate them and appreciate them for the cash flow they do still offer.

Boston Scientific (NYSE:BSX)

One of the best turnaround stories in the healthcare sector continues to be that of Boston Scientific. The company is one of the leading producers of medical devices that are used in a range of interventional medical specialties. Its main challenge centers on trying to secure better and decent footing in the drug-coated stent market vacated by Johnson & Johnson (NYSE:JNJ). Many analysts became optimistic about the company when JNJ conceded the market, but Boston Scientific has been unable to prove that it can win in the market. The company needs to show that it can execute and reduce some expenses. That is not often an easy request for companies that rely heavily on R&D.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.