Are healthcare stocks starting to catch a cold?

Photo of Michael Gable, Fairmont Equities By Michael Gable, Fairmont Equities

min read

What the share-price charts say about CSL, Ramsay, Healthscope and Sonic Healthcare.

After steadily rising for several years, healthcare stocks have entered a period of volatility and uncertainty.

Last year the S&P/ASX 200 Health Care Index briefly touched 23,000 points before easing back. However, the steady uptrend in some of the large healthcare stocks, and the index itself, is now starting to look under threat. We are seeing some deep pullbacks and some of the reasons are related to events in the US.

It is well known that President Trump plans to repeal the Affordable Care Act, which influences the number of Americans obtaining health insurance. He also plans to increase competition in the healthcare space to drive down drug prices.

These changes could have a negative effect on healthcare stocks and this uncertainty has stopped the uptrend in its tracks.

The other factor weighing on the sector is valuation. For the past few years we have been living in a low-growth world. Investors rushed into companies with reliable earnings growth because of an absence of opportunities elsewhere.

In Australia, this meant that certain stocks, including some of our major healthcare companies, became more and more expensive.

Despite the recent falls, a stock like CSL still trades on a forward multiple of 27 when the S&P 500 Biotech sector in the US trades at about 15 times next year’s earnings.

With an expectation that Trump is going to spend big in the US, and with bond yields starting to rise, it is the cyclical stocks in the market that are now in favour. Stocks that have been inflated to large multiples are coming under pressure, including our reliable healthcare stocks.

Against this backdrop, it is worth revisiting the charts of some popular healthcare stocks: CSL, Ramsay Health Care, Healthscope and Sonic Healthcare.

(Editor’s note: Do not read the following ideas as stock recommendations. Do further research of your own or talk to a licensed financial adviser before acting on themes in this story).

1. CSL

Source: Amibroker

CSL has seen an almost fourfold increase in its share price during the past five years, but many investors forget that the price did nothing in the few years before that. So CSL can endure periods where there is a lack of buying interest.

Even though the business is still growing well, we may enter another period where the market does not want to pay up for it anymore. Growth can now be found elsewhere for much cheaper prices. Last year we saw CSL drop more than 20 per cent to under $100 per share. It has since rebounded very strongly but that dip last year broke the uptrend.

The recent rally to a new high is unlikely to be sustained as investors need more time to now consolidate the large gains from previous years. I also note that the Relative Strength Index (RSI) has made a “lower high” as the stock price has briefly made a “higher high”. This divergence is also a signal that we may see some price weakness.

At best, I believe CSL will take a pause and spend much of the year going sideways in a large trading range.

2. Ramsay Health Care

Source: Amibroker

Ramsay spent much of 2015 taking a breather from its uptrend before rallying to a new high above $80 last year. It then fell under $70. It is finding some support at current levels but the lack of a strong rally from here makes me think it could be in a fourth wave.

(In Elliott Wave analysis, a stock can move in five waves. So, by only being in the fourth wave implies there will be another move down.)

The key point to look for is whether the stock overlaps its first wave, which ended near $76. Essentially this means that if Ramsay starts to trade above $76, it should continue higher, but if it fails to go through $76 it will be in real trouble and we should expect it to head back towards the low $60s.

If that were to occur, I doubt that it would resume the long-term uptrend. Like CSL, it may spend much of this year trading sideways in a large range between about $60 and $80.

This is great for traders who keenly watch the market, but not so good for the “buy and hold” investor.

3. Healthscope

Source: AmiBroker

The private hospital operator took a tumble last year, not long after making a record high of $3.14. Within a few weeks, the shares shed nearly a dollar.

Since that point in November, they have been drifting sideways in a range between about $2.20 and $2.40. It may well build a base here and start to trend higher, but we are not seeing that happen.

One likely scenario is that Healthscope makes a brief return to about $2.10. This is the reason why, when Healthscope made a high last year, it was only marginally above its previous high back in 2015. It only lasted a few days before getting sold off.

When you see a stock make a brief new high but it gets sold off, it will often make a brief new low. That is, if the previous low point was in early 2016, then it is likely to briefly dip under that. And that would imply a visit to the $2.10 zone.

Unless I see a price uptrend get established, I am happy to sit on the sidelines in anticipation of those cheaper levels.

4. Sonic Healthcare

Source: AmiBroker

The chart for Sonic Healthcare is like that of CSL, but a little more advanced. Sonic was sold off at the end of 2015, breaking the uptrend in the process. It has since rallied back to a slightly new high but was unable to continue.

In the past six months, Sonic has eased back and I expect it to come all the way back to last year’s low near $17. Like CSL, the share price is likely to go sideways in a large trading range to consolidate the large rally that occurred from 2010 to 2015.

The environment for healthcare stocks has become a little more uncertain recently and the charts support the view that price action for stocks will be choppy at best. It means that “buy and hold” investors should not expect too much from healthcare stocks in 2017, but those who are a little more active can make money in trading the range.

This means that for many stocks like CSL, we have trimmed back with a view to buying in a dip after the next correction.

About the author

Michael Gable is managing director of Fairmont Equities. He helps his clients achieve higher returns from their share portfolios by combining both fundamental and technical analysis. He is also a media commentator who regularly contributes to Sky News Business, the Australian Financial Review and online investing sites. Visit here for free stock picks and a copy of his free trading guide.

Follow: @GableMichael

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