The healthcare sector is the S&P 500’s third-largest sector weight behind technology and financial services, a status that is well-reflected in the world of exchange-traded funds (ETFs). In the U.S., there are nearly 50 healthcare ETFs available to investors.
Some of those are traditional funds, such as the Health Care SPDR (ETF) (NYSEARCA:XLV), while other healthcare ETFs are more nuanced and offer somewhat refined approaches and sophisticated strategies. There are plenty of reasons for investors to consider healthcare ETFs in 2018.
“At the sector level, six sectors (Health Care, Industrials, Information Technology, and Consumer Staples sectors) are reporting a record-high number of companies issuing positive EPS guidance for 2018,” according to FactSet data.
From Dec. 31 through Feb. 15, more healthcare companies in the S&P 500 issued positive earnings guidance than any other sector. With catalysts abound, investors may want to consider the following healthcare ETFs.
Best Healthcare ETFs: iShares U.S. Medical Devices ETF (IHI)
Expense Ratio: 0.44%, or $44 annually per $10,000 invested
The iShares Dow Jones US Medical Dev.(ETF) (NYSEARCA:IHI) is the largest ETF dedicated to medical device manufacturers, a fast-growing segment of the broader healthcare sector. This healthcare fund reflects investors’ enthusiasm for medical device stocks. Remember back in 2016 when healthcare notched its first annual decline since 2009? Well, IHI mustered an impressive 9.3% gain.
Over the past three years, IHI is higher by 56.6%, a performance that is better than double that of an array of diversified healthcare index funds. The $1.64 billion IHI is nearly 12 years old, tracks the Dow Jones U.S. Select Medical Equipment Index and holds 52 stocks. Abbott Laboratories (NYSE:ABT) and Medtronic Plc. Ordinary Shares (NYSE:MDT) combine for 18.6% of the fund’s weight.
“The global medical device & accessories market is expected to grow at a CAGR of 6.53% during the forecast period, 2017-2023,” according to Market Research Future.
Best Healthcare ETFs: ALPS Medical Breakthroughs ETF (SBIO)
Expense Ratio: 0.50%
The ALPS Medical Breakthroughs ETF (NYSEARCA:SBIO) has already been highlighted as a healthcare ETF to watch in 2018. SBIO has rewarded investors with a 7.53% year-to-date gain and that is following a sluggish February.
SBIO only holds companies with market values ranging from $200 million to $5 billion, which can be the sweet spot of biotechnology investing. Biotech companies in that market capitalization range can surge on positive Food & Drug Administration (FDA) approval news, be credible takeover targets or both. Importantly, SBIO components have to have enough cash at current burn rates to survive at least two years, a filter that can keep investors away from highly speculative, financially strained firms.
All of SBIO’s holdings have one or more drugs in either Phase II or Phase III FDA trials. The ETF follows the Poliwogg Medical Breakthroughs Index and allocates no more than 5.16% to any of its components. Investors have added nearly $25 million in new assets to SBIO since the start of 2018.
Best Healthcare ETFs: Fidelity MSCI Health Care Index ETF (FHLC)
Expense Ratio: 0.084%
The Fidelity MSCI Health Care Index ETF (NYSEARCA:FHLC) qualifies as a traditional, diversified healthcare ETF. It is also the least expensive healthcare ETF on the market with an annual expense ratio of just 0.084%. Investors can realize additional cost savings with FHLC on Fidelity’s commission-free ETF platform.
Traditional healthcare ETFs usually allocate substantial portions of their weight to pharmaceuticals and biotechnology stocks and that is true of FHLC. Eight of the ETF’s top 10 holdings hail from those two industries. Those top 10 holdings, which combine for 44.7% of the fund’s roster, include four components, such as Johnson & Johnson (NYSE:JNJ) and Pfizer Inc. (NYSE:PFE).
While FHLC and comparable healthcare funds may not be as exciting as more refined healthcare plays, these old guard funds still have plenty to offer investors.
“The decrease in the corporate tax rate for 2018 due to the new tax law is clearly a significant factor. Other factors contributing to the increase in positive EPS guidance likely include an improving global economy and a weaker U.S. dollar,” according to FactSet.
Best Healthcare ETFs: KraneShares MSCI All China Health Care ETF (KURE)
Expense Ratio: 0.79%
The KraneShares MSCI All China Health Care ETF (NYSEARCA:KURE) is just a month old, making it the newest U.S-listed healthcare ETF, but investor should not be quick to dismiss this China-focused fund. As is the case with many things in China, the country’s healthcare market is massive and growing rapidly.
“China currently has the fastest growing major healthcare market in the world with a five-year compound annual growth rate of 17%, compared to just 4% in the United States,” according to KraneShares. “China is the second largest healthcare market globally with total healthcare expenditure reaching $594 billion in 2015. A number projected to reach $1.1 trillion by 2020.”
KURE holds 53 stocks, which run the gamut of pharmaceuticals and generics companies, biotech, hospital administrators, Eastern medicine purveyors and medical equipment and technology manufacturers.
Best Healthcare ETFs: SPDR S&P Pharmaceuticals (ETF) (XPH)
Expense Ratio: 0.35%
The SPDR S&P Pharmaceuticals (ETF) (NYSEARCA:XPH) holds 41 stocks with a weighted average market value of $46.35 billion. Prominent names in XPH’s fold include Johnson & Johnson (NYSE:JNJ) and Pfizer Inc. (NYSE:PFE), but this healthcare ETF also features some mid-cap names that could be legitimate takeover targets. For the investors that prefer, large-cap pharma names, there is good news as well.
“From a fundamental standpoint, most companies in our coverage reported solid core product trends and in-line/better-than-expected earnings per share, augmented by a greater-than-expected tax benefit for 2018 and beyond,” said JPMorgan in a note out last month.
The recently passed tax reform legislation is seen as a boon for big pharma.
“The act taxes corporations at a flat rate of 21%, down from the previous top rate of 35%, repeals the corporate alternative minimum tax, and allows a full deduction of the foreign portion of dividends received by corporate shareholders from foreign subsidiaries,” according to PharmaceuticalExec.com. “Companies in the pharmaceutical industry will likely have extra cash on hand as they benefit from the corporate tax cut while excluding from income foreign dividends they receive from foreign subsidiaries.”
Best Healthcare ETFs: Principal Healthcare Innovators Index ETF (BTEC)
Expense Ratio: 0.42%
The Principal Healthcare Innovators Index ETF (NASDAQ:BTEC) follows the NASDAQ US Health Care Innovators Index and aims to put investors at the forefront of healthcare innovation by investing in early-stage companies.
BTEC holds 161 stocks with an average market value of $3.55 billion, placing this healthcare ETF in the mid-cap space among Morningstar style boxes. The fund’s holdings “a generating revenue in their research and development cycles. They might not even be generating revenue at this point, but we believe they’re on their way to becoming leaders in the field,” according to Principal.
BTEC’s strategy is compelling for risk-tolerant healthcare investors, but this fund probably is not for conservative, retirement portfolios, as it does not fit the traditional mold of defensive healthcare funds. For example, BTEC fell almost 6% in February while the losses incurred by standard, diversified healthcare ETFs were around 5%.
Best Healthcare ETFs: PowerShares S&P SmallCap Health Care Portfolio (PSCH)
Expense Ratio: 0.29%
The combination of small-cap stocks and the healthcare sector often prompts investors to think biotechnology, but the PowerShares S&P SmallCap Health Care Portfolio (NASDAQ:PSCH) offers a more diverse approach. The ETF’s 77 holdings include biotechnology, pharmaceuticals, medical technology and supplies and facilities companies.
There are advantages to focusing on healthcare stocks over broader small-cap benchmarks. Over the past three years, PSCH is up 66.1%. Combined, the Russell 2000 Index and the S&P SmallCap 600 Index barely top PSCH over that span. However, PSCH has been more volatile than the small-cap indexes over that period.
PSCH devotes over 56% of its combined weight to healthcare equipment makers and pharmaceuticals firms. Healthcare providers and biotech stocks combine for over 37% of the fund’s weight.
Todd Shriber does not own any of the aforementioned securities.