At GAM Investments’ Weekly Investment Meeting held on 14 November 2018, the speakers were Larry Hatheway, who commented on the latest US inflation figures and what they could mean in a ‘post-peak’ world, and Christophe Eggman, who highlighted the fact innovation continues to drive growth and value creation in the healthcare sector.
We are entering a new paradigm in markets – post-peak. It appears to us that US growth peaked in Q2 of this year and is likely to slow going forward. This will likely be driven by capacity constraints gradually applying the brake to growth or the Fed ensuring that outcome by raising rates until activity ebbs. After all, the Fed is witnessing a gradual rise in inflation and we believe it will not tolerate above-trend growth much longer.
The latest US headline and core consumer price inflation figures were announced this week and came in as expected. For headline inflation, the outlook calls for some moderation in the coming months owing to recent weakness in oil prices. However, core inflation – of greater importance to the Fed – is likely to continue to edge higher reflecting rising wages and other input prices.
There is nothing in this data to unduly alarm investors, but the trend towards higher underlying inflation and continued Fed rate hikes remains under-priced in inflation-linked markets and the expected future path of short rates. As a result, any strength in Treasuries is likely to prove transitory, barring an unexpected slowing of the economy.
The sector has continued its good performance year to date, albeit behind that of last year. Some individual companies have performed strongly, such as Pfizer, which saw its share price hit an 18-year high.
Trump’s presidency has been mixed for the sector so far. The US system is in need of reform, and many companies are waiting to see what the next round of reforms will be and how this might impact their businesses. This has also triggered a pause in M&A activity. Overall, the US mid-terms had little impact on the sector, but Trump’s reforms are expected to be more market-orientated and could include plans to reduce the generic drug backlog to improve competition, restricting the use of rebates and reforming the complex and non-transparent drug distribution model, as well as introducing more negotiation power for Medicare. In our view, such market-orientated solutions to reduce drug prices are a positive as they should keep innovation alive.
Meanwhile the FDA remains committed to innovation and faster time to market by simplifying clinical trials and accelerating the review process. There is also an increasing focus on value-based pricing and the impact of spending on patient outcomes.
We feel we are moving into an expansion phase for the healthcare sector, with 17.4x one-year forward earnings and valuations at an attractive level.
In biotechnology, multiples are near all-time lows, but this is not yet enough to attract investors. We take a more positive view; we expect to see a lot of innovation coming through and further consolidation in this sub-sector as companies revert to a growth path. We are currently overweight biopharma and healthcare technology.
In terms of innovation, some major themes we are looking at include gene therapy and digitisation. The analysis of gene mutation is leading to personalised drugs aimed specifically at these mutations. The digitisation of patient and clinical data is also allowing the application of artificial intelligence and deep learning in order to select treatments.
Looking ahead to 2019, innovation across the sector remains the most important driver of growth and value creation; science and the product pipeline continue to progress at a rapid pace. M&A activity has been muted of late but we expect this to pick up. The sector is still under owned, but we see plenty of good opportunities.
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