March 11, 2024 | 3 MIN READ

Weekly Market Update

Healthcare: 2023’s Pain Is 2024’s Gain

What happened last week?

All three major indices fell with the S&P 500 -0.26%, the Dow Jones -0.93%, and the Nasdaq -1.17%.

Fed Chair Powell said the Fed was “not far” from being ready to lower interest rates and his European Central Bank (ECB) counterpart, Christine Lagarde, said the ECB could do so in June. Currently, the market is discounting the Fed will first cut rates at its June 12 meeting.

Overall, 2023 marked the first earnings recession for healthcare shares in decades.

In our opinion, many of the issues that held back healthcare stocks’ earnings are transitory. This creates a possibility for sector outperformance in 2024. In fact, the market seems to embrace this view as initial healthcare performance is brightening.

3 Things to Know

MedTech Growth on Sale

We are all getting older. According to American Association of Retired Persons (AARP), in the US alone, 10,000 people turn 65 each day.

With age comes wisdom, but also more illnesses. According to the National Council on Aging, nearly 80% of adults 60 and older have two or more chronic conditions.

As societies age, healthcare services consume an ever-growing share of government and household expenditures. And escalating costs for healthcare are impacting both.

Reversing that tide requires better health outcomes at a lower cost of care. And that will necessitate a shift from the traditional approach of managing symptoms to addressing underlying causes, and from treating disease to preventing it.

At our latest Global Investment Committee meeting in February, we suggested that clients consider adding exposure to innovative healthcare companies, with a particular focus on high quality MedTech along with a selective or actively managed approach to biotech investments.

Healthcare is diverse, and ranges from defensive value large cap pharma to speculative growth in small cap biotech. Medical devices and life science tools (MedTech) straddle in between.

For those who recognize the unstoppable trends of longevity and innovation, 2023’s downturn presents potential opportunities. To us, many of the issues that held back healthcare are transitory.

This creates possibility for sector outperformance in 2024 and the market seems to embrace this view as initial healthcare performance is brightening.

Last year, surging sales of the new generation of anti- obesity drugs (GLP-1 drugs) led to healthcare’s “AI moment”, with two leading drug makers dominating equity market performance.

4Q23 earnings results confirmed that demand for GLP-1s continues to far exceed drugmakers’ manufacturing capacity. In fact, consensus for GLP-1 drug sales is around US$100bn by 2030.

GLP-1 drug makers are now racing to collaborate with life sciences tools companies to manufacturing capacity. In the immediate term, companies that can fill the shortages in supply should benefit. For example, firms that produce active pharmaceutical ingredients are seeing better gross margins.

The injection pens used in the treatment rely on specialized contract development and manufacturing organizations (CDMOs) as well as on device component makers for autoinjectors.

The medical technology industry is emerging from 2023’s events that led to delays or cancellations of surgeries and medical procedures. But as 2023 went on, the industry saw a steady recovery in procedure volumes as patients returned. This cyclical rebound was confirmed by stronger-than-expected guidance from managements in 4Q23.

Although still short of pre-pandemic levels, dealmaking momentum is likely to build over the course of 2024. Global large-cap pharma and biotech companies sitting on significant dry powder are looking to fill pipeline gaps in the face of impending patent cliffs.

Some of the largest biopharma companies are facing significant loss of drug exclusivity by 10% to 60% beyond 2025.

Approximately US$400bn of annual sales from large pharma players could lose exclusivity by the beginning of the next decade, increasing the urgency to make acquisitions. With corporate cash balances reaching approximately US$301 bn by the end of 2023, we have reason to believe M&A will continue to accelerate.

Don’t Fear a US Election Year

There is little basis to assume that election rhetoric will hurt Medtech stocks. On average, healthcare has returned 3.5% during election years since 1992, slightly outperforming the S&P 500.

Among subsectors, medical devices and biotech have outperformed S&P 500 the most, by 5% and 2%, respectively, while pharmaceuticals typically lag. This historical observation is consistent with conventional wisdom that candidate debates usually center around basic welfare topics like drug pricing and healthcare access, while MedTech tends to garner a lower profile.

The most disruptive policy implemented by the Inflation Reduction Act last year is granting Medicare to negotiate prices for a handful of major drugs. The negotiated prices for ten of the most popular drugs face discounts of 50% or so.

As this year’s election season heats up, we believe other issues will be more dominant, including immigration, trade, and taxes. So, if left to its own devices, MedTech looks to potentially flourish.

Citi Global Wealth Investments
Charlie Reinhard - Head of North America Investment Strategy
Lorainne Schmitt - North America Investment Strategy

See our weekly CIO Strategy Bulletin for more details