Seeking Alpha

Healthcare: Still A Great Buy For Dividend Growth Investors

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Includes: ABBV, BMY, CAH, JNJ, XLV
by: Thomas Hughes
Summary

The Healthcare Sector has been a top three sector for me due to earnings growth outlook, and it still is.

Within the sector, dividend growth investors will find a wealth of opportunity.

I dig deep into the sector looking for the best opportunities this quarter.

There are a handful of great stocks on the shortlist but one stands out head and shoulders above the rest.

Healthcare Stocks, Cheap And Some Have Good Yield, Too

The Healthcare Sector (XLV) has been a top three sector of interest for me the last few months due to its revenue and earnings outlook. After my latest analysis of earnings outlook and trends, it still is.

  • Regarding the current quarter and upcoming earnings cycle, the sector is expected to be a top-three EPS grower. Regarding this year, it is also expected to be a top three EPS grower and EPS growth will accelerate into next year.
  • In terms of revenue, the sector is going to lead the growth and that, in turn, will be led by the Healthcare Services and Providers. Five of the six sub-industries are expected to post positive revenue. Services and Providers is expected to see double-digit revenue growth.

Other sectors are expected to post stronger growth and acceleration next year but there are hurdles. Not even talking about the trade war, slowing global GDP growth, or the threat of recession, most other (6 of 11) sectors are expected to post negative growth this quarter. Negative EPS growth is not something well known to drive shareholder value.

Own work, data compiled from FactSet Insight

While those other sectors are expected to post stronger growth next year, that growth is due in large part to this year's weak performance and steadily declining EPS estimates for this year and next. Better to focus on sectors with a solid foundation of growth.

Own work, data compiled from FactSet Insight

Six Reasons To Love Healthcare Dividend Growth Stocks

When screening the Healthcare Sector, the only criteria in the initial search that matters to me is the yield. My threshold is "better than the broad" market so I don't screen out stocks I may otherwise be interested in. After that, it comes down to dividend health, distribution growth, earnings growth outlook, and value.

  1. Yield - What I discovered is that at today's prices, you can easily beat the S&P 500's 1.85% and the ten-year Treasury's 1.66%. The range of stocks that hit my radar runs from just over 2.0% to over 6.25% which makes the group comparable to things like REITs and Utilities stocks, my other top three sectors of interest right now.
  2. Distribution History - Most of the stocks on the list have been paying for at least 5 years, many of them for more than 5 decades, and quite a few fit the bill of "dividend grower." There are a handful of companies that have been growing their distribution for more than five years and even two Dividend Aristocrats: Cardinal Health (CAH) and Johnson & Johnson (JNJ). Johnson & Johnson has increased its payout for more than 50 years.
  3. Growth History - Not only is there a history of dividend growth within the Healthcare Sector, it is a history of strong distribution growth. Most have been increasing their payouts at a 5% average annual rate, and many have increased theirs at a rate of 10% or more. The best part is that the companies with strong growth rates often match up with the higher yields and years of increases.
  4. Dividend Health - Using the payout ratio as a benchmark, dividend health within the Healthcare Sector is good. There are very few on my list with a ratio above 70% and quite a few with one lower than 35%. Most fall into my range of sub-65% which means it's not unreasonable to expect dividend increases from this group. The highest ratios also tend to come with the highest P/E ratios, so it's easy to screen them out of the shortlist.
  5. EPS Growth - Oddly, YoY EPS growth for this quarter, calendar 2019, is not as rosy for my dividend growers as it is for the broader Healthcare Sector. That does not mean there is not growth within this group, or that next year will be the same. Looking to next year, most within the group will produce growth and some of the companies will outpace the sector and the broad S&P 500. Bristol-Myers (BMY) jumps out as one company with a robust outlook for next year, and the figures I found point to +40% EPS growth.
  6. Value - I hear the market is turning from growth to value and there is value in this sector and group as well. A few of the stocks in my initial results are trading above or near the broad market's forward P/E of 16.8 but most do not. In fact, there are eleven stocks trading below 15X forward earnings and five of those are below 10X forward earnings.

The Shortlist

So, removing all the stocks from my initial list that fail to pass even one of my metrics leaves five stocks whose yields range from 2% to 6.25%. Four of the five have been increasing their distribution for at least five years. Three have a distribution growth rate above 15%. Two have payout ratios below 35% and two are trading below 10X forward earnings. A nice looking little portfolio of Healthcare Dividend Growers if I do say so.

Own work, data compiled from Seeking Alpha

Now, if I cut out the stocks that haven't raised their distribution recently, and the two that are trading at the highest valuation, it leaves me with only one stock, AbbVie (ABBV). A look at AbbVie's chart gets me excited. This stock is showing a clear bottom and bullish breakout that will likely take it up to $75 (+8%) in the next few weeks.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.