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Global Healthcare: Pressing Questions

Third Quarter 2020 
By Conor McCarthy, CFA and Charles Seidman, CFA

Amid today’s uncertainty, learn why we believe healthcare continues to offer a compelling opportunity set.

Insight from our sub-adviser, Wellington Management
Conor McCarthy, CFA
Investment Strategist
Charles Seidman, CFA
Investment Director


The growing coronavirus pandemic has fueled significant investor uncertainty and market declines. And while healthcare is by no means totally immune to these near-term impacts, we believe investment opportunities in the sector remain very compelling. Secular demand continues to be strong, driven by increasingly wealthy and aging populations and accelerating innovation. Crucially, the sector also offers a deep and varied opportunity set with robust alpha1 potential for bottom-up stock pickers.

Still, investors have many questions about the coronavirus, the implications of the upcoming US election, the status of innovation, and evolving industry dynamics.

 

How Does the Coronavirus Pandemic Impact the Healthcare Opportunity Set?

The pandemic’s effect on healthcare stocks through the first quarter of 2020 has been varied. Performance within biopharmaceuticals was bifurcated. Companies expected to play a role in either developing or partnering to deliver a COVID-19 therapy or vaccine outperformed on a relative basis. At the same time, many innovative small-cap drug stocks underperformed as a result of the uncertainty surrounding how the current health crisis might impact their ability to start or complete important clinical trials. While lower-priority trials may be delayed, we believe therapy candidates in critical areas of need are likely to progress.

While a number of companies are working on antiviral and vaccine candidates for COVID-19, our view is that a vaccine will not be available in the US this year. In addition, the economic benefits from any such therapies remain unclear, particularly given the uncertainty of both the duration of the pandemic and of a potential vaccine’s allowable payment terms. We are therefore more interested in businesses that, along with their potential to contribute solutions to the fight against COVID-19, have wider portfolios of attractive therapies and assets. We’ve seen some progress being made in identifying possible therapies for the treatment of the most acute COVID-19 cases as well as antibody combinations that could conceivably provide some amount of temporary immunity while we await an approved vaccine.

 

What Are the Regulatory Implications of the Upcoming US Presidential Election?

Former Vice President Joe Biden has emerged as the presumptive Democratic nominee. Given his more moderate profile, we believe this would, in isolation, lower the probability of significant US healthcare reforms such as Medicare-for-All. However, we are mindful of the impact that COVID-19 may have on voter sentiment. While we believe major reform is still unlikely, the potential for smaller-scale subsidies or executive orders targeting drug pricing remains. Notably, we think any such changes would likely not impact differentiated new therapies addressing severe conditions in areas of unmet need. Our focus, therefore, continues to be on innovators across a wide range of critical areas, where regulators are encouraging the development of solutions for unaddressed patient needs.

In keeping with that focus, we favor biopharma and medical technology firms that develop novel products and service companies whose offerings facilitate the transition to a more value-based, data-driven, and outcomes-oriented healthcare delivery model.

 

What Is the State of Healthcare Innovation Today?

Though we have deep respect for the risks of coronavirus and the uncertainty of regulations, we believe healthcare continues to offer a robust opportunity set, in particular due to thriving innovation.


Figure 1

Medicines in Development*

Selected diseases

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* Defined as single products that are counted exactly once regardless of the number of indications pursued. | Source: Adis R&D Insight Database |  As of February 2015. More recent data is unavailable but we believe this trend persists today.

 

In 2019, there were 48 new drug approvals in the US, marking one of the highest levels in the last decade. Many of these were for first-in-class drugs with the potential to drastically impact people’s lives. As noted above, regulators appear to be supportive of this progress. The explosion of innovation in gene therapy, oncology, and other key areas is helping to offer new solutions to populations with huge and previously unmet needs.

We believe our team’s edge continues to be understanding what solutions will work scientifically, what advancements entities will be willing to pay for, and the size of the end-market opportunity.

 

What Drove 2019’s Mergers and Acquisitions (M&A) Activity? Will it Continue?

Importantly, much of this scientific progress is happening at small- and mid-cap companies. And with the growing possibility of regulatory change and the increased use of generics/biosimilars threatening margins, their potential was not lost on large-company managements in 2019. Large-cap companies with flexible balance sheets were therefore looking to build out their pipelines and made a sizable number of acquisitions of small- and mid-cap innovators with valuable intellectual property.

While we do not invest in any company on the hope of a takeout, and although M&A activity is likely down until the end of the crisis, we believe this ongoing phenomenon illustrates the evolving dynamics at both the scientific and business levels within the healthcare sector.

 

What’s Next?

Despite the current environment of uncertainty, we remain optimistic in the enduring case for healthcare driven by lasting secular trends. As the market evolves over the coming months, we’ll share further updates on major healthcare themes.

To learn more about healthcare investing, please talk to your financial professional.



1 The measure of the performance of a portfolio after adjusting for risk. Alpha is calculated by comparing the volatility of the portfolio against a benchmark. The alpha is the excess return of the portfolio over the benchmark.

 

Important Risks: Investing involves risk, including the possible loss of principal. Security prices fluctuate in value depending on general market and economic conditions and the prospects of individual companies. • Fixed income security risks include credit, liquidity, call, duration, event and interest-rate risk. As interest rates rise, bond prices generally fall. • Investments in high-yield (“junk”) bonds involve greater risk of price volatility, illiquidity, and default than higher-rated debt securities. • Foreign investments may be more volatile and less liquid than US investments and are subject to the risk of currency fluctuations and adverse political and economic developments. These risks may be greater for investments in emerging markets. • Derivatives are generally more volatile and sensitive to changes in market or economic conditions than other securities; their risks include currency, leverage, liquidity, index, pricing, and counterparty risk. • Restricted securities may be more difficult to sell and price than other securities.

The views expressed herein are those of Wellington Management, are for informational purposes only, and are subject to change based on prevailing market, economic, and other conditions. The views expressed may not reflect the opinions of Hartford Funds or any other sub-adviser to our funds. They should not be construed as research or investment advice nor should they be considered an offer or solicitation to buy or sell any security. This information is current at the time of writing and may not be reproduced or distributed in whole or in part, for any purpose, without the express written consent of Wellington Management or Hartford Funds.

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