May 23, 2019—Four months into 2019 and the S&P 500 is up 17% (price return), making it the seventh best start to the year for the index since 1929. One sector is just barely eking out a positive return: health care. The return spread between health care and the best-performing sector—technology—over just the first four months of the year is a staggering 24%.

There are two main reasons why the health care sector appears to be on life support. First, health care is one of the more “defensive” sectors of the U.S. equity market and tends to do better in environments where investors are more risk averse. In 2018, a challenging year for equities, the health care sector of the S&P 500 outperformed the broader index by 10.4%. The bounce in the equity market this year has favored those stocks more closely tied to the economic cycle (“cyclical” sectors like technology, industrials, and consumer discretionary). Second, policy risk has ramped up dramatically as the 2020 U.S. presidential election has come into focus. This policy risk is not overstated for some companies, and it is part of the reason we are neutral health care in our equity sector strategy. However, in our view, it is likely that there are at least a few gems among the rubble, leaving some attractive investment opportunities within the health care sector.

Health care stocks in the D.C. cross-hairs

It seems that no matter who we listen to on the 2020 campaign trail, their policy vision poses a direct threat to some area of the health care sector.

The Trump administration has backed continued legal challenge to the Affordable Care Act, which could be revisited by the U.S. Supreme Court, and is also contemplating a post-2020 return to Affordable Care Act “repeal and replace” efforts. Repeal of the Affordable Care Act would increase hospitals’ “bad debts” as fewer insured means less demand for health care services, and more people entering hospital emergency rooms without the means to pay the subsequent bills.

Among 2020 Democratic hopefuls is a building chorus of “Medicare for all,” and Bernie Sanders is one of the loudest voices. In the general sense, this would mean a single-payer, nationwide, public insurance plan that could lead to lower total cost (netting out higher taxes against lower medical bills) for some but, according to the Mercatus Center at George Mason University, would require an estimated $32.6 trillion increase in federal spending over a 10-year period.1 Obviously, private insurance companies would feel pain from a move to a public insurance program, but other health care providers could also see a cut to payments relative to private insurance rates. With details scant, there is the potential for ramifications on the entire sector.

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