The medtech space led by Intuitive Surgical (ISRG), Varian Medical Systems (VAR) and Steris (STE) has proved to be a safe haven in 2017, riding out drug-pricing fears that have weighed down Big Pharma and biotech stocks.
Meanwhile, even as political pressure mounts over the effort to “repeal and replace” ObamaCare, the medtech sector seemingly has bipartisan support to end the Medical Device Tax, a 2.3% tax on medical device sales in the U.S. Congress placed a moratorium on the tax two years ago.
The combination has made the space ripe for generalist investors fleeing the risks of biotech and pharma for more security, KeyBanc analyst Matt Mishan told Investor’s Business Daily. The sector’s strength reflects a growth in medical procedures as Baby Boomers hit their golden years.
“When you consider the landscape out there, health care looks good,” he said. “It’s a large piece of the economy. If you want to tie yourself to something, you want to tie yourself to volumes, which are tied to demographics. The older the population gets, the more procedures they have.”
IBD’s TAKE: Research has shown as much as 50% of a winning stock’s performance owes to the strength of its industry group and sector at the time of its break out. You can keep track of industry group movements using IBD’s Industry Sub-Group Rankings Table, and follow sector dynamics with the IBD Smart NYSE & Nasdaq Tables.
Year-to-date, IBD’s 56-company Medical-Systems/Equipment industry group is up 31%. The biggest increases have come from thinly traded names led by Pulse Biosciences (PLSE) and Cutera (CUTR). Leaders like Intuitive and Varian have popped 56% and 28%.
The group on Tuesday ranked No. 14 out of 197 industries tracked by IBD, and has held a top 20 ranking through most of this year. But that strength could be challenged before the end of the year, says Baird analyst Jeffrey Johnson who has kept a close eye on trading volume in the group’s stocks.
“Will volumes pick back up?” he said. “The biggest question I have in medtech is when 2017 is all said and done, was it below expected volume for the year or was it kind of expected? My gut is it’s leaning toward slightly below expected.”
There’s two spending pieces to medtech: Companies that make money based on selling equipment to hospitals and companies that make money based on the number of procedures performed on patients. The third and fourth quarters will be most telling in the latter vein, Johnson said.
Patients tend to defer health procedures until after their summer vacations. That can create a buying opportunity for investors if stocks take a dive following the September/October quarters. Historically, spending picks up again in the fourth quarter as patients make the most of their health insurance.
“You try to control your health care spending in the early part of the year because of your deductible limit,” Johnson told IBD. “But then you have a kid who breaks an arm or you get sick and have to go to the ER and by June or July, you’ve broken through that deductible ceiling, now you rush and try to get some of these somewhat deferrable procedures.”
But if utilization and volumes don’t pick up, the medtech sector could see a downturn, he cautioned.
Some resolution to the reform effort would be helpful, Mishan says, but lack of it could be another factor. The decreasing likelihood that the GOP can reform the Affordable Care Act before the end-of-September deadline could point to headwinds for the space, if ObamaCare is allowed to continue to deteriorate.
“If the exchanges start falling apart, people might start putting off procedures as a result,” he said.
KeyBanc’s Mishan says there are still legs to propel the medtech sector. Elective health procedures like hip and knee replacements haven’t yet boomed, but emergency procedures will continue to be unaffected by economic constraints.
Case in point: Steris’ sterilization services for hospitals and biologics. In 2015, the Mentor, La.-based company bought Synergy Health, expanding its global operations. Steris jumped 5.5% on Aug. 8 after reporting 6% organic growth for the first fiscal quarter, ended June 30.
The firm’s full-year guidance for 4%-5% organic growth is reasonable, Mishan said. Steris is also looking to open an off-site facility to sterilize equipment for multiple hospitals in a U.S. region — an innovative move that could take effect toward the end of this year or early next.
Innovators will win the market, Mishan said.
“Larger companies in the medtech space are outperforming hospital volumes and they’re doing a really good job of winning share, consolidating the supply chain and coming up with innovative tech that improves outcomes and lowers costs,” he said. “That’s a big deal in the hospital space at this point.”
Intuitive is also dominating its own market with about 90% share, CFRA analyst Jeffrey Loo told IBD. The No. 1 medtech player by market cap, Intuitive makes robotic-surgery machines. Earnings and revenue slowed sharply in 2013, then declined in 2014. The company is now fighting to hold both measures in the low-double-digit range.
Still, as Intuitive edges above the 1,000 price mark — it hit an all-time high at 1,054 on Sept. 8 — it’s best to think of the Sunnyvale, Calif. company as a stand-alone, Loo said. Their growth, market share and price are very company-specific. That fits the bill for what Mishan sees as key for the industry. (Intuitive on Aug. 14 announced a 3-for-1 stock split, effective Oct. 6.)
His advice: “In general, the major trend in the space is in minimally invasive types of procedures. So you’re looking for companies that are tied to minimally invasive procedures that you can’t put off.”This article first appeared on Investor's Business Daily and was written by Allison Gatlin.
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