Just what the doctor ordered

Last year’s surge in health care stocks proved a welcome tonic for many struggling fund portfolios. In a year when the average U.S. equity fund lost 0.21 percent, health care funds produced double- and even triple-digit returns.

Last year’s surge in health care stocks proved a welcome tonic for many struggling fund portfolios. In a year when the average U.S. equity fund lost 0.21 percent, health care funds produced double- and even triple-digit returns.

By Laurie Kaplan Singh
February 2001
Institutional Investor Magazine

As a group, the 72 specialty health care funds tracked by Morningstar returned an average 55.4 percent in 2000. The category’s three top retail funds, Evergreen Health Care, Nicholas-Applegate Global Health Care and Munder Framlington Healthcare, blew the lights out, returning 119.5 percent, 96.3 percent and 87 percent, respectively.

Not surprisingly, these impressive performances pulled in lots of money. According to AMG Data Services, health care funds attracted approximately $13.6 billion in net new cash in 2000, up from $1.2 billion in 1999. “This represents 8.2 percent of total equity fund inflows,” says Robert Adler, AMG’s president. “That’s very significant given that health care funds represent just 1.5 percent of total equity fund assets.”

Fund families introduced 15 new health care funds in 2000, which held some $1.4 billion in assets at year-end, according to AMG. Launched in June, American Century Life Sciences Fund posted assets of $234 million at the close of December.

The stock boom began in biotechnology. “The genomics revolution sparked a lot of interest in the first and third quarters,” says Trisha Schuster, manager of Nicholas-Applegate Global Health Care Fund. Fears of a downturn and the prospect of a Republican administration that would favor private market solutions to the problem of rising drug prices also caused a lot of money to flow into pharmaceuticals stocks in the year’s second half. In addition, improved fundamentals gave a boost to HMO and hospital stocks.

“It was an extraordinary year in which all health care subsectors performed well,” says Schuster. Looking forward, she is optimistic about the prospects for Icos Corp., which, in partnership with Eli Lilly & Co., has developed a Viagra competitor with fewer side effects.

Virtually all of last year’s top-performing health care funds benefited from relatively large stakes in biotech stocks, which rose 23 percent on average in 2000. The Evergreen and Nicholas-Applegate funds had approximately 30 percent and 44 percent of their assets, respectively, in biotech stocks at the beginning of last year. Evergreen particularly benefited from its position in OSI Pharmaceuticals, up 909 percent last year. Many other health care funds were less aggressive, either diversifying their bets across a larger number of stocks or stressing stable-growth pharmaceuticals companies.

After last year’s extraordinary performance, a pullback was to be expected. In this year’s first five trading days, health care stocks corrected sharply, with the sector as a whole down about 11.5 percent and the Nasdaq biotechnology index off 10.7 percent as of January 19.

The health care sector, and especially biotech, will prove volatile, says Schuster. “The valuations are very high, and there’s a lot of potential for disappointments.” Adds James Fenger, lead portfolio manager of the retail Scudder Health Care Fund (up 59.8 percent in 2000), “Many of the biotechnology companies are highly vulnerable to swings in investors’ perceptions.”

Although a change in Medicare reimbursement may squeeze pharmaceuticals company profits, “this isn’t the technology business, where new products quickly become a commodity,” says Fenger. Given health care’s high barriers to entry, he says, companies that develop successful new products will face limited competition and should earn above-average profits for an extended period of time.

In today’s rocky markets that’s as close as anyone gets to a clean bill of health.
Institutional funds scoreboard
Lipper has ranked the following as last year,s top nine health care funds

Funds

Assets 11/30/00 ($billions)

Total return calendar year 2000

YTD total return 1/22/01
Evergreen Health Care Fund (Y)
$ 0.6

119.5%

,6.98%
Nicholas-Applegate Global Health Care Fund
152.4

96.3

,10.70
Munder Framlington Healthcare Fund (Y)
13.7

87.0

,10.06
Prudential Health Sciences Fund (Z)
31.0

75.8

,10.81
Morgan Stanley Dean Witter Health Sciences Trust (D)
13.6

58.5

,12.57
First American Health Sciences Fund (Y)
18.2

47.1

,12.48
Merrill Lynch Healthcare Fund (A)
296.3

39.9

,7.28
Fidelity Advisor Health Care Fund
45.8

36.6

,10.24
Alliance Health Care Fund
9.6

33.0

,11.68
Source: Lipper.

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