For more than four years, Americans were locked in a raging debate over the future of our healthcare system. Despite the deepening financial crisis at the time, healthcare reform turned out to be one of the pivotal issues in the 2008 presidential election. During that campaign, then-candidate Barack Obama proposed radical changes to how care is delivered and who pays for it, while Republican nominee Senator John McCain favored largely maintaining the status quo.
In 2010, Congress passed the Patient Protection and Affordable Care Act (PPACA) and the president signed the bill into law. The landmark legislation created an individual mandate for every American to carry health insurance or face financial penalties, while requiring most employers to offer coverage or incur penalties. The end result is the single largest increase in the number of insured Americans since the creation of Medicare under President Lyndon Johnson’s Great Society program in 1965.
But the mere passage of the healthcare reform bill hardly ended the debate.
The constitutionality of the sweeping changes to the healthcare system came under challenge before the Supreme Court, which ruled in 2012 that the PPACA withstood constitutional scrutiny. While the court’s ruling required some minor changes to a mandated expansion of Medicaid–a program that provides medical care for children and the poor that’s largely funded with federal dollars, but administered by the individual states–it ensured that the PPACA was the prevailing law of the land.
Even then, the debate still didn’t end.
While economic issues remained the primary focus of the 2012 presidential election, the possibility of rolling back the PPACA also received significant attention. It was discussed during the debates and was the subject of stump speeches by both presidential candidates and their surrogates. Meanwhile, millions of dollars were spent on ads addressing the issue.
But Americans ultimately reelected President Obama and handed Democrats slight gains in Congress, which ensured the PPACA is here to stay.
Picking the Winners and Avoiding the Losers
Such sweeping reform inevitably creates winners and losers, and as investors it’s our job to understand those consequences regardless of how we feel about the healthcare law.
Beyond that, healthcare will be a difficult industry to ignore. Indeed, it stands to become one of the largest segments of our economy thanks to the massive expansion of coverage as well as the aging baby boomer population.
While Congress is contemplating changes to entitlement programs such as Medicare as part of the upcoming spending debate, healthcare has already become a $2 trillion a year industry. And it will only continue to grow: Healthcare spending is expected to account for a fifth of US gross domestic product (GDP) by the end of the next decade.
Although uncertainty surrounding the PPACA’s implementation has caused many analysts and financial pundits to become a bit gunshy when it comes to the healthcare industry, I’ve devoted a substantial amount of time to researching this space. In fact, I’ve found a number of areas in the industry where investors can profit from healthcare reform. I also expect the industry to be a solid performer in 2013, which is why I’ve devoted the past two issues of ETF Investment Insider to healthcare topics.
Unfortunately, the healthcare industry is so broad that sector-specific exchange-traded funds (ETF) simply don’t have the flexibility to pick winners while avoiding losers. But since the healthcare industry has become such an integral part of the US economy, it will be critical for investors to maintain exposure to it so they can enjoy robust gains in addition to well-balanced portfolios.
As such, I’ll be devoting the next eight weeks of this e-letter to covering the healthcare industry. And while I’ll continue to include some ETFs among my mix of recommendations, you’ll notice that individual stocks will be getting a lot more attention, as I highlight names that offer the greatest upside potential while providing at least some downside protection.
This shift in emphasis also means that ETF Investment Insider merits a name change. Next week, this e-letter will be published under its new title: Money & Medicine.
My hope is that that you’ll gain enough insight about the industry to position yourself for years of healthy returns. Keep reading for a sampling of just a few of the topics I’ll be expanding upon in the coming weeks.
The Demand Surge
If you’ve been to see your doctor recently, you probably spent quite a bit of time idling in the waiting room. Wait times are getting longer because insurance companies and the federal government have cut reimbursement levels as a cost-saving measure, which means doctors have to see more patients in a day just to break even.
The situation in US hospitals is even more acute, especially in more rural areas where the number of medical professionals is much more limited. But hospitals are required to maintain a minimum nurse-to-patient ratio and keep a particular mix of doctors on staff in order to be accredited by the Joint Commission, a nonprofit organization that ensures medical facilities meet set performance benchmarks and standards of care. Without that accreditation, hospitals are ineligible for reimbursement from many insurance companies and are subject to strict limitations on treating Medicare and Medicaid patients.
Existing capacity constraints in American healthcare will only be exacerbated by the massive expansion of the pool of insured patients. That coupled with the graying baby boomer generation creates a perfect storm in terms of capacity constraints.
As a result, the huge demand for medical staff will be a boon for companies such as AMN Healthcare Services (NSDQ: AMN), which provides nurses and other clinical workers on a temporary basis. The company serves hospitals, medical practices, government-run hospitals such as those maintained by the Department of Veterans Affairs, and pharmacies in all 50 states. As the number of patients grows, hospitals will increasingly have to rely on temporary services to maintain target staffing levels in order to keep their accreditations.
Companies that produce consumable medical supplies–catheters, syringes and other devices that are for one-time use only–will also get a huge boost in the coming years due to the broadening pool of insured patients.
ICU Medical (NSDQ: ICUI) manufactures and markets catheters and connections used in the delivery of intravenous fluids and medications such as cancer-fighting oncologics. Due to their innovative design, the company’s products drastically reduce the risk of acquiring a hospital-based infection because of the reduced “dead space” in the tubing.
The equipment is also needleless, which allows for the creation of closed systems that lessen the possibility that healthcare workers might accidently stick themselves with dirty needles or get exposed to the radiation and chemicals in oncologics.
Since these products can only be used once, that should create an impressive spike in earnings as their adoption becomes widespread and the pool of insured rises.
The game-changing technological innovation occurring in the healthcare space is mind boggling and will present huge opportunities for investors over the coming decades.
Life Technologies (NSDQ: LIFE) is a perfect example of that.
In 2003, the Human Genome Project successfully sequenced the full genetic code of a single human being at a cost of about $3 billion. That sparked a huge wave of investor interest in “personalized medicine,” which involves tailoring medical treatment to a patient’s genetic profile. Unfortunately, many investors were burned as the technology failed to keep pace with their expectations. The cost of genetic sequencing was too prohibitive for personalized medicine to realize its full potential–until now.
Life Technologies has developed a new gene-sequencing machine called the Ion Proton Sequencer, which can decode an entire human genome is less than a day for only $1,000. That’s a major breakthrough, as prior sequencers required a week to accomplish the same feat at a cost of $10,000.
This latest sequencer has the potential to radically change the face of medicine.
For example, the ability to cheaply and efficiently sequence genes could lead to improvements in cancer treatment. Instead of a broad-based approach, oncologists could customize their treatment according to a patient’s genetic profile. And biotech companies could develop tests to determine precisely the type of cancer a patient has.
Additionally, this advance could allow doctors to identify genetic diseases in patients and even help determine the origins of infectious diseases. It will also be a boon for the pharmaceutical industry by enabling drug companies to develop more targeted and effective medications for all manner of disorders and illnesses.
Beyond just healthcare, cheap and easy genetic sequencing could have applications in the agricultural arena, allowing companies to improve livestock and develop better seed for a wide range of crops.
Thanks to the innovative streak of companies such as Life Technologies, the size of the personalized medicine market is expected to double to more than $450 billion over the next two years. That makes it a key theme to which investors will need exposure in the coming years.
Good Health on a Global Basis
The US hasn’t been the only country changing the face of healthcare within its borders.
In 2006, just 45 percent of the Chinese population was covered by health insurance. But with the Middle Kingdom’s rising incomes and burgeoning middle class, demand for modern, Western-style healthcare surged. Several private companies stepped in to meet that demand, as wealthier Chinese essentially paid out of pocket for medical care.
Unfortunately, this set of circumstances created a healthcare gap between the rich and poor. For a supposedly socialist country, this dichotomy proved unseemly and embarrassing, prompting the Chinese government to take action.
First, it greatly expanded its Urban Employee Basic Medical Insurance program, which provides basic insurance coverage for urban employees of both state-owned and private enterprises. As with employer-sponsored insurance programs in the US, the cost of that insurance is shared by both the employer and the employee.
Secondly, it created two new insurance programs for low-income workers, one for urban residents and the other for rural residents. The programs are primarily funded by the Chinese government and also require small annual premiums from the insured themselves.
As a result of these programs, nearly 95 percent of the 1.3 billion citizens of China are now covered by health insurance, and the county is quickly becoming one of the largest healthcare markets in the world, second only to the US.
Within the next three years, healthcare spending in China is expected to reach nearly 7 percent of China’s gross domestic product (GDP). While China’s Ministry of Health has yet to release total spending figures for 2012, in 2011 China spent nearly USD120 billion on healthcare.
Despite that jump in spending, Chinese hospitals, especially those in rural areas, tend to be under-equipped. And more than half of the equipment they do have is at least 30 years old.
Mindray Medical International (NYSE: MR) addresses those deficiencies by offering mid-priced patient monitoring equipment, blood chemistry analyzers, and imaging systems such as ultrasounds with multiple capabilities that are reliable and easy to use.
Its strategy has paid off remarkably well: Revenues have grown 35 percent annually over the past five years, while earnings per share have climbed 24 percent annually. Its impressive profit margins are the result of tight cost controls and continued improvements to its manufacturing processes.
In addition to playing an integral role in modernizing the Chinese healthcare industry, Mindray also has a growing presence in other emerging markets as well as the US. The company should be able to sustain its rapid growth rate over the coming years because of its pricing edge. A typical Mindray device costs about a third less than one from its competitors.
But China isn’t the only country that’s experiencing booming healthcare demand; in India, Brazil and a number of other emerging markets, the healthcare sector is growing faster than GDP as a whole.
More to Come
There’s a world of intriguing healthcare names both here and abroad. Keep reading over the next eight weeks, and I’ll point you toward the most profitable opportunities in each issue of Money & Medicine.
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