Healthcare: What Does a Trump Administration Mean for Healthcare Stocks?

• With Donald Trump gaining the presidency and Republicans in control of Congress, we don't expect major changes to policies for drug prices, but changes to the Affordable Care Act seem likely focused on repealing healthcare insurance mandates and loosening overall regulations.
• The fundamentals of research-and-development productivity continue at a steady pace, offsetting some pricing pressures from pharmacy benefit managers by supporting strong drug launches and rapidly progressing clinical data with a focus in specialty-care areas, such as oncology.
• Redeployment of capital continues to drive valuations with a focus on mergers and acquisitions, stock buybacks, and steady dividends by the larger healthcare companies.

With Donald Trump winning the presidency and Republicans in control of the Congress, we don't see any major shifts in U.S. drug prices over the next several years, but we expect changes to the Affordable Care Act (ACA). Although specifics are largely missing from most plans, likely Republican plans include eliminating the insurance mandate, selling insurance across state lines, converting Medicaid into block grants, and generally loosening regulation across the board. These changes will likely reduce the number of insured patients, which is generally a negative for the healthcare market, but the loosening regulations should help offset this negative.

On the drug side, while we don't expect any major changes from the government on drug pricing, we expect continued drug pricing pressure from the powerful Pharmacy Benefit Managers (PBMs), which should continue to decelerate U.S. drug pricing growth, adding pressure to drug stock valuations.

Offsetting the drug pricing pressure from PBMs, the research-and-development landscape--the core pillar of economic moats of innovation in drug and biotechnology companies--is rapidly increasing the speed of generating excellent clinical data in areas of unmet medical need, particularly in oncology.

Drugs in certain areas of cancer (especially immuno-oncology) are reaching the market at half the time of drugs developed a decade ago, partly due to major advancements in science and clinical designs but also due to more accommodative healthcare regulatory groups. We expect the shift to continue and to increase drug-development productivity and strengthen the moats for drug companies, especially as the productivity gains are in areas of unmet medical need that hold strong drug pricing power and steep launch trajectories.

Although the patient populations tend to be smaller in specialty areas like cancer, the strong pricing power of over $100,000 annually can easily turn the drugs into blockbusters. Also, payers tend to be more supportive of drugs in areas of unmet medical need over areas with minor drug advancement, such as allergies and blood pressure.

On the capital allocation front, healthcare companies continue to buy back shares and increase the dividends while also acquiring firms as cashflow generation looks robust, but increased growth is needed from acquisitions. Persistent low interest rates are also fueling merger-and-acquisition trends because cheap capital is available to fund acquisitions. Additionally, any change lowering of the U.S. corporate tax rate by the new U.S. government would likely increase the acquisition activity as more international profits would be less restricted by tax losses in bringing the cash back to the U.S. Overall, the low interest rates combined with the need for scale and growth should drive continued healthcare acquisitions over the next six months.

Top Picks

Allergan

AGN

Star Rating: 5 Stars

Economic Moat: Wide

Fair Value Estimate: $300.00

Fair Value Uncertainty: Medium

Five-Star Price: $210.00

Unlike most of its peers in specialty pharma, Allergan retains one of the most attractive product portfolios and innovative pipelines, particularly in its core markets of aesthetics, ophthalmology, gastro, and central nervous system. Allergan's diverse portfolio, key durable products including Botox, and healthy pipeline support a wide economic moat and high-single-digit organic growth over the next five years, in our view. The firm has used a nice mix of focusing on core internal research-and-development strengths while supplementing its pipeline with mergers and acquisitions, which create numerous capital deployment opportunities following the $40 billion sale of its industry-leading generics unit to

Roche

RHHBY

Star Rating: 5 Stars

Economic Moat: Wide

Fair Value Estimate: $42.50

Fair Value Uncertainty: Low

Five-Star Price: $34.00

We think the market underappreciates Roche's drug portfolio and industry-leading diagnostics that conspire to create sustainable competitive advantages. As the market leader in both biotech and diagnostics, this Swiss healthcare giant is in a unique position to guide global healthcare into a safer, more personalized, and more cost-effective endeavor. Roche's collaboration between its diagnostics and drug-development groups gives the firm a unique in-house angle on personalized medicine. Also, Roche's biologics constitute three fourths of its pharmaceutical sales, and biosimilar competitors have seen development setbacks while Roche's innovative pipeline could make these products less relevant by their launch.

Teva

TEVA

Star Rating: 5 Stars

Economic Moat: Narrow

Fair Value Estimate: $57

Fair Value Uncertainty: Medium

Five-Star Price: $39.90

We assign Teva a narrow economic moat rating thanks to its large scale and vertically integrated generic drug manufacturing business, combined with intellectual property protection and a modest pipeline in the specialty drug segment. As the largest pharmaceutical manufacturer with vertically integrated operations, Teva has the operating scale, legal resources, and generic pipeline to help minimize the threat of low-cost producers in emerging markets. Further, Copaxone's manufacturing difficulty, combined with Teva's product pipeline, cost-savings plan, and acquisition synergies, should help insulate earnings from generic Copaxone competition. On the growth front, Teva is one of the few generic firms with the financial resources and manufacturing capabilities to reproduce complex drugs, such as biosimilars and respiratory inhalers that should have less competition.

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