Health care stocks were among the biggest losers on Tuesday, when Amazon.com (Nasdaq: AMZN), Berkshire Hathaway ( BRK.A, BRK.B) and JPMorgan Chase & Co. ( JPM) announced plans for a joint health care venture that will place more pressure on health insurance companies.
But despite Tuesday’s dip, several analysts believe that major health care stocks will continue to be solid picks for years to come.
Health insurers and drugstore companies were caught off guard as officials from Amazon (the nation’s leading internet retailer), JPMorgan (the world’s largest investment bank) and Berkshire (headed by legendary investor Warren Buffett) announced plans for a new venture that would be “free from profit-making incentives” and instead aims at “improving employee satisfaction and reducing cost” of care through technology.
The company serves as a “wake-up call to all health-care related companies and their stocks,” says K.C. Ma, director of the Roland George investments program at Stetson University in DeLand, Florida. Shares of CVS Health Corp. ( CVS), Walgreens Boots Alliance ( WBA), Express Scripts Holding Co. ( ESRX), Cardinal Health ( CAH), McKesson Corp. ( MCK) and UnitedHealth Group ( UNH) all dropped by 3 to 5 percent.
“The health care industry has taken the new company as a sign of Amazon firing the first shot to invade the health care field in the same respect that Walmart ( WMT), Target ( TGT) and other supermarket chains like Kroger ( KR) reacted negatively to Amazon’s acquisition of Whole Foods,” he says.
[See: 7 of the Best Health Care Stocks to Buy for 2018.]
The dip is likely to be short-lived since it will take several years for this trio of companies to kick off their new health insurance plan, Ma says. Health care stocks and exchange-traded funds will bounce back long term and Tuesday’s decline occurred also because of a sell-off in the bond market.
“The stock market just needs an excuse to take out some air,” Ma says. “In the long run, the market should welcome the formation of the new company since it will serve as a healthy competitive stimulus to force the industry into restructuring the long-ailing U.S. health care industry.”
Analysts are doubtful of the long-term impact of Amazon, Berkshire Hathaway and JPMorgan’s initiative since few details were revealed and a disruption to the current system would take years. A consortium of companies launched a similar plan in 2016 to curtail skyrocketing health care costs. The non-profit, the Health Transformation Alliance, was started by 40 large self-insured employer plan sponsors, including Macy’s ( M), American Express Co. ( AXP) and Johnson & Johnson ( JNJ) and planned to buy prescription drugs from CVS and UnitedHealth Group.
“At first glance this initiative seems to have little market clout with respect to impacting health care costs and would not seem to have the capability to displace established players,” RBC Capital Markets analyst George Hill says in a research note. “If this was the Amazon announcement drug supply chain investors have been fearing since early 2017, consider us relieved.”
The supply chain for prescription drugs is not at risk because Amazon, JP Morgan or Berkshire cannot “move the needle” as it relates to health care costs, he says.
The acquisition of Aetna by CVS will likely have a “better chance of reducing beneficiary costs,” Hill says.
Since the new business is structured as a non-profit, the benefits to Amazon are “likely many years out and are likely focused more on controlling its own health care costs (542,000 employees worldwide as of third quarter 2017),” says Justin Post, a research analyst for Bank of America Merrill Lynch, in a research note.
[See: 11 Health Care ETFs for a Heart-Healthy Portfolio.]
Managed health care companies such as Aetna, UnitedHealth and Humana ( HUM) will be under pressure in the future, says Don Shelly, a finance professor at Southern Methodist University’s Cox School of Business in Dallas. Only a few ETFs focus on the managed health care providers such as iShares U.S. Healthcare Providers ETF ( IHF) and the other ETFs invest across the broad health care sector or other subsectors such as pharma, medical equipment, health care facilities and will not be affected by the news.
With a workforce of 1.2 employees between Amazon, JPMorgan and Berkshire, the scale of their new health insurance plan is a threat to existing health insurers and other health care intermediaries, especially if the trio can generate meaningful cost reductions, giving them the ability to compete with traditional health insurers, he said.
“If they are successful, this will encourage other large employers or groups of employers to replicate this disintermediation strategy,” Shelly says.
The bigger story is the competitive pressure these three companies can “introduce to an industry that enjoys strong pricing power,” said Shawn Cruz, a senior trading specialist at TD Ameritrade, a brokerage company based in Omaha, Nebraska. “This may cause expectations for revenue/profit growth to decline in an industry that trades at a higher multiple to the overall market.”
Health care service providers such as UnitedHealth and Anthem ( ANTM) will be impacted directly, but biotech stocks will also feel the pain since they trade at significantly higher multiples.
“The biotech multiple is driven by the expectation that new and innovative drugs can demand a higher price and any loss in the pricing power will have a higher impact on this sector,” he says. “The success of the venture by JPM/AMZN/BRK will be heavily reliant on their ability to execute on their strategy, since none of these companies have a history of operating in this industry, so details about how they plan to approach this will be important.”
Health care providers will face additional headwinds in the future. One ETF, Health Care Select Sector SPDR ETF ( XLV), declined by 2.1 percent, more than the three benchmarks.
“This likely is a precursor of things to come for the health care industry,” says Robert Johnson, president of The American College of Financial Services in Bryn Mawr, Pennsylvania.
While this may seem like an unlikely triumvirate to attack health care costs, the industry can be disrupted by these three veterans who recognize that rising health care costs are the “biggest threat to ongoing profitability,” he says.
Fears rose because the three companies represent the potential for enormous market penetration and pricing power, says Patrick Morris, CEO of New York-based HAGIN Investment Management.
[See: 7 Health Care ETFs to Buy Now.]
“These companies have the ability to be in every single household in the U.S. and to create a fast and efficient distribution network,” he says.
While the news will put a cap on upside valuation for a while, health care and biotech companies can overcome the issue by “churning out really strong earnings each quarter,” Morris says.
“It’s not great news, but this is irrelevant for long-term investors,” he says. “It is way too premature and it would be like worrying about an economy with no oil.”
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Health Care Stocks Face Pressures Under JPM-AMZN-BRK Venture originally appeared on usnews.com
