Earnings season continues to roll along, and the most recent
sector to take the spotlight was healthcare, in particular
several biotechnology companies. Many of the biggest biotech
companies have now reported their recent quarterly results,
giving us a slightly better insight into the sector.
By all accounts, last year was a great year for healthcare
stocks. There are multiple reasons why Wall Street was so bullish
on the overall sector. One is the Affordable Care Act, and a
second is the aging U.S. population.
The Affordable Care Act has gotten off to a rough start, but
as the wrinkles of the program get ironed out, a large number of
previously uninsured Americans will finally obtain some level of
health insurance. Since insured people are more likely to visit
the doctor, the result should be higher patient counts, as well
as an increase in prescription drug sales.
Along the same lines, the aging of the U.S. population should
have the same effect. The baby boomer generation is hitting
retirement age at a rapid rate, with around 10,000 currently
hitting retirement age each and every day. It is easy to see how
this will lead to higher prescription drug sales for years to
As a result, healthcare stocks were strong in 2013. To get a
clearer picture of how strong the sector performed last year, we
simply need to look at a chart of IYH, the iShares US Healthcare
exchange traded fund.
You can see a steady upward trend, but also may note that the
ETF started trending lower over the last few weeks. The main
reason for this is just healthcare stocks trading lower as the
overall market has pulled back.
With the entire market trading in the red so far in 2014, to
get a better view on the sector, we need to look at a few recent
earnings reports, and unfortunately, the results have sent out
Take for example Biogen (
), which reported its fourth quarter results on January 29. The
company posted better than expected earnings and revenues, but
issued weaker than expected guidance. Looking forward, the
company forecast 2014 earnings in a range of $11.00 to $11.20 a
share, shy of the $11.50 analysts had forecast. Wall Street
ignored the weaker than expected forecast, and the stock has
traded higher following the report.
) reported its fourth quarter results January 28, reporting
earnings of $0.56 per share, easily topping the $0.52 analysts
had forecast. Revenues were also slightly higher than expected.
The stock has traded higher following the report.
Another big name to report is Celgene (
). Higher research and development costs pushed its fourth
quarter profit down 19%, but revenues were up 21%. The company
reported a 54% increase in its total research and development
costs. The stock has traded lower since its report.
Another disappointment came from Eli Lilly (
). The drug maker topped analyst estimates for profit and
revenue, but Wall Street was disappointed with its 12% dip in
profit, and 2% decline in sales. The stock has traded lower
following its earnings report.
It is hard to get a good grasp on the sector. There are
clearly reasons to be bullish, but the recent string of earnings
reports does raise some red flags.
Personally, I remain bullish on the sector. I believe the
long-term positive impacts from the Affordable Care Act and the
aging U.S. population will keep strength in the biotech sector,
but in light of the mixed earnings reports I would prefer to play
any investment in the sector safely.
In order to make a safe play, you need to do two things,
diversify and hedge. We can set up a trade on IYH that
IYH holds a wide range of healthcare stocks, so it is clearly
a diversified play on the sector. Among its top holdings include
Johnson & Johnson (
), Pfizer (
), Merck (MRK) and Gilead Sciences (GILD).
A nice hedged trade on IYH would be the April 103/108 bull put
credit spread. In this trade, you would sell the April 108 put
while buying the same number of April 103 puts for a credit of 35
cents. This trade has a target return of 8.6%, which is 35.2% on
an annualized basis (for comparison purposes only). IYH is
currently trading at $118.54, so this trade has 8.6% downside