Use What You Know When Braving the Health Care Sector

Physician's Money Digest, January 2007, Volume 14, Issue 1

Although a physician's training often does not includefinancial planning or market analysis, their knowledge ofhealth care potentially can pay off in spades with regard tostock market investments. "If I were a physician and wantedto pick my own stocks, I would start with what I know," explains David Twibell, president of the Wealth ManagementDivision of Denver-based Colorado Capital Bank. "Anytimeyou have some unusual insight into a company or sector, itgenerally takes some of the risk out of investing and, hopefully,provides an opportunity to realize strong returns."

Despite knowing the health care field better than mostother market sectors, there are some things physicianinvestorsshould keep in mind when it comes to investing inhealth care stocks.

A Changing Market

The health care sector has been out of favor for the past 6to 9 months. According to John Farrall, health care analyst forthe Private Client Group at National City, whether or not itstays out of favor is partially based on the results of lastNovember's congressional election.

Speaking prior to the election, Farrall noted that ifDemocrats take control of the House—which they have—investors should brace for a flurry of bills that would negativelyimpact health care players, though it's uncertain that the billswould get through the Senate. These include bills on reimbursementpractices, the government's role in negotiating health carepricing, and the reimportation of drugs from Canada and otherplaces. Generic drug companies might get a boost from reformsin generic laws, but such changes would negatively affectbiotech companies, as the industry moves toward faster adoptionof generic drugs in the biotech space.

The face of the health care sector also continues to change.Twibell explains that the health care sector used to mean pharmaceutical,but that has changed over the past decade to thepoint where it's hard to know what the complete health caresector is. Hospitals, biotech, device manufacturers, insurance,pharmaceuticals, and assisted care all fall under the health careumbrella, but they all act differently. Some of these are alwaysdoing well, and others are lagging behind.

John Schloegel, vice president of investment strategies atCapital Cities Asset Management, points out that health careis what analysts call a defensive sector, meaning that it is lesscyclical than things like retail or real estate. Even if the economyis weak, consumers will tend to keep buying their medicineeven if it means cutting back on other things. "Right now theeconomy seems to be on the upswing, but there are also hintsof recession next year," Schloegel says. "For now, health careis in a mild uptrend but is not the market leader."

Rules of Investing Still Apply

Health care may be what physician-investors know best, butthat doesn't change the rules of a sound investing strategy.Closeness can lead to blindness, explainsMichael Kozak, director of WealthManagement at Salem, Mass-based CabotMoney Management. "Familiarityis no reason to avoid a sound diversificationstrategy," Kozak explains. Overconfidence,he says, is one of the biggesthandicaps to successful investing.

" It is important for physicians toremember that they already have a hugeinvestment in the health care sector—their own practice," Schloegel explains."So, diversifying into other industries isan excellent idea in the long run."

Diversification should also happenwithin a sector. Physicians should havea balanced portfolio with exposure tobiotech, medical equipment, or healthcare services.

"It's important that investors understandthat the majority of publiccompanies in the health care spaceare product companies, like biotech,equipment, and drug companies," Farrall explains. "This is because theservices side of health care is made upof hospitals, most of which are not-for-profit organizations that are notpublicly traded, and smaller medicalgroups that are privately owned byphysicians. Thus, stocks in the medicalsector are heavily weighted towardproducts. So, even if you diversifyacross the health care sector,most of what you will own is products,not services."

Do the Research

Physician-investors get no pass ondoing their homework simply becausethey're more familiar with the healthcare sector. Farrall explains that it'scrucial to research companies beforeinvesting. The health care world isfluid; companies are bought and soldregularly, and there are many jointventures across industries amongbiotech, pharmaceutical, life sciences,and technology companies. Knowingthe company and how it makes moneyis important. "Changes in market regulationhave leveled the playing fieldfor individual investors. All investorsnow have access to the same informationas institutional investors. Much ofthis information is on the investor pageof a company's Web site," he says.

Alan Haft, a nationally recognized investmentadvisor, echoes those thoughts.He points out that the principles of prudentstock investing and analysis apply toevery sector of the market, and he offersthe following checklist:

  • Check the yearly returns.
  • Research the fund manager. Is itthe same person who has been managingthe fund for all those good years ofthe past, or is someone new at the helm?
  • Consider the fees. Visit www.personalfund.com for more information.
  • Keep an eye on turnover. Howmany times the manager replaces theportfolio per year translates into feesyou pay and taxes you owe.
  • Compare the fund's performancewith the index it is benchmarked to.

There is a pretty good chance the indexoutperformed the fund manager. Morningstar.com is a great source for this andall other fund information.

As a last piece of advice, Farrallencourages physician-investors to get toknow a sector that offsets health care,such as software, energy, or commodities.These sectors, he says, benefit froma growing economy, while health carestocks are favored in a weaker economy.