Health care: A few stocks still offer upside

Despite the sector looking slightly overvalued, we still see stocks with attractive valuations across the different industries.

Damien Conover, CFA 10 July, 2015 | 5:00PM

While the market valuation of the health-care sector remains slightly above our fair value estimates in aggregate, we still see several undervalued stocks across the different industries. As has been the case for several quarters, we believe the current environment for health care continues to lend itself to a stock-pickers' market rather than a focus on industries.

After the severe recession and increased cost sharing by insurance companies with patients, health-care utilization is increasing. The magnitude of the recession and increased cost-sharing has delayed a sharp rebound in health-care use. However, the increase in U.S. hospital admissions starting in mid-2014 suggests a turning point, and U.S. health-care reform is likely driving part of the uptick. With the mandated health-care insurance and expanded government insurance in the U.S., more people are seeking treatment. We expect a continual, gradual increase in demand for health care, but probably not a return to 2007 levels anytime soon.

Across health-care industries, companies are acquiring and merging to increase their growth potential through creating scale, cutting costs and focusing on key strategic areas. Further, the persistent low interest rates are also fueling the M&A trends, because cheap capital is available to fund acquisitions. Beyond the heavy prevalence of M&A in the drug space, with large drug firms acquiring Hospira, Salix and Pharmacyclics, we are seeing further consolidation in health-care services.  UnitedHealth's (UNH) acquisition of Catamaran significantly increases its supplier pricing power and scale advantages.

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Securities Mentioned in Article

Security NamePriceChange (%)Morningstar Rating
Merck & Co Inc81.33 USD-1.23

About Author

Damien Conover, CFA

Damien Conover, CFA  Damien Conover, CFA, is director of healthcare equity research and equity strategy for Morningstar.