Article04 Oct 2023

A healthy dose of optimism - September Trust Update

James Douglas

Fund Manager

Gareth Powell

Head of Healthcare

Market and sector review

September saw a continuation of August’s trends with a challenging environment for global equity markets. Investors clearly displayed a risk-off attitude, preferring classically defensive sectors and avoiding small-cap stocks, which fared significantly worse than large-cap stocks. The healthcare sector, which outperformed the broader market, reflected the same conservative attitude as seen in the overall market, with managed care, healthcare services, healthcare distributors and biotechnology being the only subsectors with positive returns. On the other hand, life sciences tools and services, healthcare facilities, supplies, information technology and equipment came under pressure.

The Company’s NAV was down 1.4% in September, behind the benchmark (MSCI All Country World Daily Net Total Return Health Care Index) which was up 0.5% for the month (both in sterling terms).

The fundamental question that investors have been asking themselves for the past few months is whether the US will succeed in averting a recession in the short term. Macroeconomic data remains mixed, however cracks in the US economy are starting to emerge. While inflation continues to slowly ease, GDP growth was more subdued than expected and the unemployment rate jumped to 3.8%. The Federal Reserve decided to keep its benchmark interest rate unchanged, the second pause (there was also one in June) since the interest rate hike cycle began in March 2022. Regardless of this pause, the rhetoric that interest rates will stay higher for longer has taken root in investors’ minds who, understandably, will likely maintain a cautious stance until the macroeconomic picture becomes clearer. To add to the uncertainty, oil prices spiked in September owing to OPEC’s decision to limit supply. If this decision is not reversed, higher fuel costs will make efforts to rein in inflation harder.

The healthcare sector, which outperformed the broader market, reflected the same conservative attitude as seen in the overall market, with managed care, healthcare services, healthcare distributors and biotechnology being the only subsectors with positive returns.

Finally, the Chinese economy showed early signs of stabilisation, with factory activity expanding for the first time in six months, retail sales rising 2.5% and inflation flat. It is still too early to say whether the positive data is temporary or China’s recovery has truly commenced. As it pertains to healthcare, the government’s crackdown on bribery practices is progressing and its effects are already being seen by a number of medical technology companies. In essence, they are pointing to a slowdown in utilisation and demand for products as doctors reduce their working hours. While the companies are confident the impact will be temporary, and any disruption manageable, the situation adds to the wall of worry that is building for healthcare companies with exposure to China.

Fund review and activity

Relative to the benchmark, the top contributors in September were Zealand Pharma, Swedish Orphan Biovitrum, and Molina Healthcare. Zealand Pharma benefitted from greater appreciation for its late-stage obesity portfolio on the back of continued investor enthusiasm for assets to treat obesity. Following the completion of the rights issue, Swedish Orphan Biovitrum showed positive momentum with the market now re-engaged with the underlying business, which appears to be in good health. There was no news from Molina Healthcare during the period under review although the managed healthcare sector did perform well, partly in response to rising Treasury yields.

Negative contributors, again relative to the benchmark, were UnitedHealth Group, Revance Therapeutics and Cytokinetics. The Fund did not have any exposure to UnitedHealth Group during September, adversely impacting relative performance as the managed healthcare sector rallied. Revance Therapeutics held a disappointing Capital Markets Day on 19 September, when it was announced that the company intends to pivot away from its premium pricing model for its key asset Daxxify, significantly reducing the revenue potential for the product. There was no news concerning Cytokinetics, with the stock caught in the selloff that affected companies on the smaller side of the market cap spectrum.

We added a position in Zimmer Biomet Holdings, a US medical device company with a focus on hip and knee devices. Despite being exposed to a pretty robust operating environment, the shares have heavily derated in recent months in the face of improving revenues and earnings. The addition was funded by sales in life sciences tools and services company Agilent Technologies, medical device company Inspire Medical Systems and Indian hospital operator, Max Healthcare Institute.

Outlook

Better than expected economic growth, coupled with more optimism for a soft landing as opposed to a full-blown recession, has proven to be a challenging backdrop for healthcare with investors favouring alternative sectors such as communication services, information technology and consumer discretionary. However, with interest rates looking like they might stay higher for longer and signs showing economic activity might slow, healthcare may well start to look especially attractive on a relative basis.

James Douglas, PhD
James joined Polar Capital in September 2015 and is a Fund Manager for the Healthcare team. He was appointed co-manager for the Polar Capital Global Healthcare Trust in August 2019.
Prior to joining Polar Capital, James worked in equity sales specialising in global healthcare at Morgan Stanley, RBS and HSBC. James also has equity research experience garnered from his time at UBS, where he worked as an analyst in the European pharmaceutical and biotechnology team. Before moving across to the financial sector, he worked as a consultant for EvaluatePharma.
Gareth Powell, CFA
Gareth joined Polar Capital in 2007 to set up the Healthcare team. Prior to Polar Capital, Gareth worked at Framlington, where he began his career in investment management in 1999. Soon afterwards, he joined the Healthcare Team in 2001 and helped launch the Framlington Biotech Fund, which he managed from 2004 until his departure.
Gareth studied biochemistry at Oxford, during which time he worked at Yamanouchi, a leading Japanese pharmaceutical company (later to become Astellas). As well as this, Gareth worked for the Oxford Business School and various academic laboratories including the Sir William Dunn School of Pathology and the Wolfson Institute for Biomedical Research.