Market and sector review
Global equities hit record highs in May, but the rally was narrow and concentrated in the information technology sector, which continues to benefit from the AI buildout theme, with hardware stocks seeing dramatic moves higher on the back of strong Q1 results. Most other sectors saw either modest gains or small declines, despite an overall good earnings season.
Healthcare underperformed the broader market but still finished the month in positive territory. Within the sector, life sciences tools and services, pharmaceuticals, managed care and services were the strongest performing sub-industries, while healthcare equipment, facilities, and distributors saw negative returns.
Two opposing forces shaped equity markets in the month: a fragile de-escalation in the Middle East and renewed focus on inflation across most developed economies. The US/Israel war with Iran, running since late February, had choked the Strait of Hormuz and pushed oil prices to multi-year highs. Through May, growing confidence in a lasting ceasefire and the prospect of reopening the strait drove oil prices down almost 20%, after negotiators reached a 60-day memorandum to extend the truce and begin nuclear talks.
This relief was offset by a difficult inflation picture, especially in the US. Its labour market remained solid though cooling off slightly, but inflation, as measured by the CPI, accelerated to around 3.3% year on year on a sharp gasoline price surge, leaving the Federal Reserve (Fed) reluctant to signal cuts, at least in the near term. As Jerome Powell's term as Chair ended in mid-May, Kevin Warsh is expected to take a more prominent role, adding to policy uncertainty. However, it is clear that the Fed sees inflation as the main risk to the US economy. If the supply-driven energy shock reignites inflation for a prolonged period of time, the next move in benchmark interest rates will likely be higher, not lower, which would then pressure valuations of more economically-sensitive sectors.
Fund performance
The Company’s NAV increased by 5.7% in May, ahead of its benchmark, the MSCI All Country World Daily Net Total Return Health Care Index, which was up 2.5% for the month (both figures in sterling terms).
Positive contributors relative to the benchmark in May were Guardant Health, Agilent Technologies and Merck KGaA.
Several favourable developments drove Guardant Health’s share price higher over the month. The first was a strong set of Q1 results, with revenue ahead of expectations and full-year guidance raised. The second was FDA approval of its Guardant360 Liquid CDx test which, if it secures so-called Advanced Diagnostic Laboratory Test (ADLT) status, could command a materially higher reimbursement price and lift near and medium-term sales forecasts. The third was the additions of its Shield blood-based colorectal cancer test to the American Cancer Society's screening guidelines, a step that could expand commercial coverage among payers in states that follow those guidelines.
We view healthcare's valuations as disconnected from its strong fundamentals and on that basis we believe the sector offers an attractive risk/reward profile.
Agilent Technologies and Merck KGaA both posted solid earnings. Improving end markets across the life sciences industry helped, but the larger driver was each company's indirect exposure to the AI infrastructure buildout, through Agilent's applied and chemical markets and Merck KGaA's Electronics segment respectively, both of which support the development and fabrication of semiconductors.
Negative relative contributors in the period under review were iRhythm Technologies, Fresenius and Vaxcyte.
The first two companies struggled in May for various reasons, despite both reporting solid Q1 results: policy uncertainty surrounding Spanish and German hospitals weighed on Fresenius’s share price, while iRhythm Technologies was caught in the general selloff of US healthcare equipment stocks.
Finally, Vaxcyte was weak after management set conservative expectations for the Q4 2026 readout of its PCV-31 adult phase 3 trial.
Fund activity
We initiated positions in Insmed and Edwards Lifesciences during the month.
The pullback in Insmed’s share price offered an attractive entry point in this biotechnology company focussing on respiratory diseases. We believe the market underappreciates both the potential for multi-billion dollar sales of its main commercial assets as well as the strength of its pipeline.
Edwards Lifesciences is a leader in healthcare equipment for structural heart diseases. The company has been executing well and we see upside to sales and earnings estimates, driven by competitive share gains and recently launched products.
The new additions were partially funded by exiting the positions in ICON, Zealand Pharma and Fresenius.
Outlook
While the healthcare sector posted positive returns in May, the broader market's gains continued to be driven by investors' preference for AI-exposed companies. We view healthcare's valuations as disconnected from its strong fundamentals and on that basis we believe the sector offers an attractive risk/reward profile. The case is reinforced by easing policy risks and the sector's resilient qualities which should prove increasingly valuable as the odds of the global economy slipping into stagflation begin to rise.
