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I believe strongly in diversification of one's IRA, and that any diversified portfolio needs significant exposure to healthcare. In this sector, there are many great companies, so how does an investor decide which is the best investment over the long term?

First and foremost, any IRA investment needs to be a stable company. Because of this, I'm limiting my candidates to those big pharma companies with market caps of $50 billion or more that have been in business for a minimum of 20 years. Next, we need to explore the histories of our candidate companies, to see which has the best track record of creating shareholder value, and increasing dividends paid to shareholders. Finally, we must take into account current valuations and compare them to past performance.

Our candidates in no particular order are:

  1. Bristol-Myers (BMY) - Solely a pharmaceutical company, this company's major products include Plavix, Abilify, and several HIV/AIDS medications. BMY currently has a market capitalization of $56.9 billion, and trades at just over 16 times TTM earnings. Over the past 20 years, BMY's share price has increased 3.7% per year on average, and has increased its dividend by 3.6% per year on average.
  2. Pfizer (PFE) - Major drugs include Lipitor and the ever-famous Viagra. Pfizer is an extremely large company, with a current market cap of $184 billion, and it trades at 21.58 times TTM earnings. PFE has rewarded investors well, with a 20-year average increase in share price of 7.5%, and an average dividend raise of 10.2% annually.
  3. AstraZeneca (AZN) - Major products include Crestor, Nexium, and Symbicort, among others. AZN is one of the highest yielders in the sector, currently paying a dividend of 5.95%. AstraZeneca has a current market cap of just over $59 billion, and trades at only 7.67 times earnings. AZN has increased its share price by 8.2% on average over the past 20 years, and has raised its dividend by 9.7% on average.
  4. GlaxoSmithKline (GSK) - Considered the world leader in HIV/AIDS therapeutics, GSK also produces Advair as well as antivirals such as Valtrex. GSK currently has a market cap of $114.7 billion, and trades at 13.81 times earnings. GSK has grown its share price by 3.3% on average over the past 20 years; however it has increased its dividend on average by a respectable 6.9% annually.
  5. Merck (MRK) - Merck is a major pharmaceutical player, in addition to a thriving vaccine business and OTC brands such as Claritin and Dr. Scholls foot products. Merck's top selling drugs include Singulair and Januvia. Merck currently has a market cap of $137.7 billion and trades at 20.63 times earnings. MRK has increased its share price by an average of 3.9% per year, and has increased its dividend by 6.6% on average.
  6. Johnson and Johnson (JNJ) - The largest and most diversified company of this comparison, JNJ only derives about 37% of its sales from pharmaceuticals. 40% of JNJ's income is from its medical devices and diagnostic division, while 23% comes from the consumer brands such as Band-Aid, Tylenol, Immodium, Neutrogena, and their enormous line of baby products. JNJ has a current market cap of just over $190 billion and trades at 21.92 times earnings. Over the past two decades, JNJ has increased its share price by 9.5% annually, the highest in this group. It has also hiked its dividend by an astounding 13.1% annually. This is surprising, considering JNJ is traditionally thought of as one of the "boring" stocks; I'll take a 13% raise any day!
  7. Abbott Labs (ABT) - A diversified company deriving 58% of its income from pharmaceuticals, including its top seller Humira. ABT has a market cap of $108.4 billion and trades at 22.21 times earnings. Its 20-year average increase in share price is 8.6% and its payout increased on average by 10% annually.

To illustrate the impact all of these percentages and dividend increases have on long-term shareholder value, here is how a hypothetical investment of $10,000 made 20-years ago in each of these companies would have done. In doing my calculations, I assumed all dividends were reinvested in new shares.

  • BMY - $43,860.90 with $1,857 of annual income
  • PFE - $66,680.73 with $2,384 of income
  • AZN - $122,124.30 with $7,251 of income
  • GSK - $35,014.41 with $1,651 of income
  • MRK - $35,662.16 with $1,327 of income
  • JNJ - $89,888.37 with $3,050 of income
  • ABT - $78,790.74 with $2,366 of income

Particularly surprising to me was both the vast difference in performance amongst companies that investors tend to think are so similar. Also surprising is that the second-highest performer of the group was Johnson and Johnson, which I had always considered a boring, safe stock that was for people whose main objective was preserving capital.

In conclusion, all of these companies have reasons to like them. However, AstraZeneca's extremely low multiple and high yield are hard not to notice, not to mention its track record of increasing shareholder value. Johnson and Johnson's performance also speaks for itself, and its diversification of its products makes the company very well equipped to handle market corrections and economic cycles well. I would recommend investors split their big pharma allocations equally between these two companies, however none of these candidates would constitute a "bad investment."

Source: Which Big Pharma Is Right For Your IRA?