23 Dec Health care looks cheap going into 2025. How to play it with options
The health-care sector is looking cheap heading into 2024, but uncertainty looms in the new year as the Trump administration takes the reins. We’ll describe an options play to capitalize on the price action as 2025 kicks off. Over the past 10 to 20 years, the health-care sector in the United States has grown significantly relative to the broader economy, as measured by its share of gross domestic product. Health-care spending accounted for approximately 15.7% of U.S. GDP in 2003. Over the next 10 years, that share grew by roughly 1.7% to 17.4% of GDP in 2013. Today, it is estimated to be about 18.4% of GDP, and the Centers for Medicare & Medicaid Services estimates health-care spending could represent approximately 20% of U.S. GDP by 2030. This steady increase reflects the growing demand for health-care services, advancements in medical technology and rising costs. An aging population — baby boomers entering retirement — significantly increases demand for health-care services, and longer life expectancies have led to more years of health-care utilization. Another important cause of increased costs is the burden of chronic diseases such as diabetes, cardiovascular diseases and obesity, which also drives higher health-care costs, and the latest innovations in diagnostics, treatments and pharmaceuticals tend to be more expensive. XLV YTD mountain The Health Care Select Sector SPDR Fund (XLV) in 2024 Expanding insurance coverage through the Affordable Care Act and Medicaid increased access to health care. Most would agree that’s a good thing. However, as demand for goods and services increases, so do prices. Hospital services, physician fees, prescription drug prices, and administrative expenses have often outpaced those in other sectors of the economy. Macroeconomic, political, and regulatory factors, not just demographics, influence the profitability of health-care stocks. The health-care industry’s percentage of the economy has grown, and health-care companies’ revenue growth has outpaced that of the broad market over the past five years, up nearly 61% versus revenue growth of just over 38% for the S & P 500 overall during the same period. However, the sector has materially underperformed the broad market index, which benefited from the explosive growth in the technology sector. As 2025 approaches, investors may ask themselves: If the health-care sector is growing faster than the economy, why have these stocks underperformed, and does this represent an opportunity to play the group as a possible catch-up trade in the new year? As the charts above reveal, part of the problem is margins. Profit margins within the health-care sector have fallen over the past five years and are now well below the 20-year average. Another concern? President-elect Donald Trump and some of those closest to him, such as Elon Musk and Vivek Ramaswamy, have emphasized cost-cutting and “efficiency.” The burden of health-care expenses may rank highly on the cost-cutting agenda. The health-care sector has underperformed the S & P 500 by more than 10% since the presidential election. Indeed, the incoming Trump administration’s efforts to curb government spending and improve efficiency could have mixed effects. Streamlining approval processes at the U.S. Food and Drug Administration could expedite drug and device launches, benefiting innovative companies. Tax cuts and deregulation could boost profitability and cash flow across the sector. On the other hand, reduced government health-care spending could pressure hospitals, Medicare-reliant companies and insurers. Pushback on drug pricing and efforts to curb wasteful expenditures could hurt profit margins, especially for large pharmaceutical companies. Uncertainty regarding the Affordable Care Act, long a target for Republicans on Capitol Hill, could create unpredictability for insurers. The options trade On balance, if an investor assumes that well-managed companies can stabilize margins here, or better yet, even return them to 6% or so, still well below the long-term average, the sector looks cheap relative to the broad market. Of course, while fundamentals are important from a long-term investing perspective, they are not a very good short-term trading signal, and the short-term technicals, as of Friday’s close, remain weak. A call calendar offsets the cost of a longer-term purchase by selling nearer-dated calls against it. This strategy anticipates the price action to be range-bound in the near term. If technicals improve, one might adjust the short strikes higher when it comes time to roll or hold the long call position, depending on the technical setup. An example of a diagonal call spread using the Health Care Select Sector SPDR Fund (XLV) and based on Friday’s closing prices is found here : Sell XLV Jan. 17 $138 call Buy XLV Mar. 21 $140 call DISCLOSURES: All opinions expressed by the CNBC Pro contributors are solely their opinions and do not reflect the opinions of CNBC, NBC UNIVERSAL, their parent company or affiliates, and may have been previously disseminated by them on television, radio, internet or another medium. THE ABOVE CONTENT IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY . THIS CONTENT IS PROVIDED FOR INFORMATIONAL PURPOSES ONLY AND DOES NOT CONSITUTE FINANCIAL, INVESTMENT, TAX OR LEGAL ADVICE OR A RECOMMENDATION TO BUY ANY SECURITY OR OTHER FINANCIAL ASSET. THE CONTENT IS GENERAL IN NATURE AND DOES NOT REFLECT ANY INDIVIDUAL’S UNIQUE PERSONAL CIRCUMSTANCES. THE ABOVE CONTENT MIGHT NOT BE SUITABLE FOR YOUR PARTICULAR CIRCUMSTANCES. 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