VRTX - XLV: Considering The Low-Maintenance Option To Navigate The Healthcare Sector

2023-12-18 11:11:08 ET

Summary

• The Health Care Select Sector SPDR Fund is a popular ETF that provides exposure to the healthcare sector.
• XLV has shown consistent performance and has outperformed the SPY ETF over the past decade.
• The ETF comprises major healthcare industry players and offers a convenient and cost-effective way to invest in the sector.

Investors in search of stability and growth frequently turn to exchange-traded funds (ETFs) as a tactical method to diversify their portfolios. In addition, ETFs can be a great way to hedge as well as gain exposure to a hyper-competitive or volatile industry. One such ETF that has garnered praise since its inception is the Health Care Select Sector SPDR Fund ( XLV ). I have never been a big consumer of healthcare ETFs due to my fascination with tracking individual names in the sector. Admittedly, I have recently decided to start indulging in some of the healthcare ETFs that focus on specific industries such as pharma, genomics, healthcare tech, medtech, etc. These have allowed me to take advantage of the oversold state of the healthcare sector and benefit from specific sectors leading the rebound. However, I am starting to consider using some of the broader healthcare ETFs, such as the XLV for a few reasons.

I intend to provide a background on the XLV and discuss the key aspects of the ETF, exploring its performance and underlying holdings. In addition, I will highlight how the broader trends in the healthcare sector impact the XLV. Finally, I will discuss why I am considering using the XLV as a key investment vessel going forward.

Understanding The XLV

XLV is managed by State Street Global Advisors and tracks the Health Care Select Sector Index. This index is composed of tickers in the healthcare sector of the S&P 500, offering investors exposure to an expansive field of healthcare-related industries. The fund provides a convenient and cost-effective way for investors to gain admission to the healthcare sector without the need for picking individual stocks. Plus, XLV provides a respectable dividend for the long-term investor.

Performance Overview

Following the market-low of the finance crisis, XLV has exhibited consistent performance, reflecting the resilience of the healthcare sector. Investors have historically turned to healthcare as a defensive play, making XLV an attractive option during periods of market volatility.

Looking at the monthly chart, one can see the XLV has only had one neutral month (November 2023) on the Go-No-Go indicator since October 2010.

Indeed, the “Go-No-Go” Indicator is not the be-all for determining if a ticker is truly bullish… but one cannot deny that the XLV has been a solid investment for over a decade.

In fact, the XLV has outperformed the SPY ETF for the greater part of the last decade and has several periods of outclassing the rest of the S&P.

Key Underlying Holdings

Diving deeper into XLV's composition and underlying holdings that contribute to its overall performance. The fund comprises major healthcare industry players, including pharmaceuticals, biotechnology, healthcare equipment, and managed healthcare. Top holdings often include well-established companies providing a balanced mix of stability and growth potential.

Some of the larger components include:

Johnson & Johnson ( JNJ ) is a multinational pharmaceutical, medical devices, and consumer goods company.

Merck ( MRK ) a “Big Pharma” engaged in research, development, manufacturing, and marketing of a wide range of healthcare products, including prescription medications and vaccines.

Pfizer ( PFE ) a “Big Pharma” involved in the discovery, development, and manufacturing of prescription drugs, vaccines, and other healthcare-related products.

UnitedHealth ( UNH ) is a health insurance, healthcare services, and technology-enabled health solutions company.

Abbott Laboratories ( ABT ) is a multinational healthcare company with an emphasis on medical devices, diagnostics, branded generic pharmaceuticals, and nutritional products.

Thermo Fisher Scientific ( TMO ) is a company specializing in scientific research services, including analytical instruments, tools, reagents, consumables, software, and CRO services.

Amgen ( AMGN ) is a biotech company that focuses on the discovery, development, and manufacturing of innovative biologic therapies for patients with serious illnesses.

Medtronic ( MDT ) is a medical device company involved in a variety of therapeutic areas, including cardiology, diabetes, and surgical technologies.

Bristol Myers Squibb ( BMY ) is a “big pharma” that is immersed in innovative medicines for various therapeutic areas, including oncology and immunology.

Gilead Sciences ( GILD ) is a biopharma known for its research and development of antiviral drugs, particularly in the treatment of HIV and hepatitis C.

Vertex Pharmaceuticals ( VRTX ) is a biotech company specializing in the discovery and development of small-molecule drugs for the treatment of diseases, with a focus on cystic fibrosis.

Intuitive Surgical ( ISRG ) is a pioneer in the field of robotic-assisted minimally invasive surgery, known for developing and manufacturing DaVinci robotic surgical systems.

AstraZeneca ( AZN ) is a “Big Pharma” company involved in numerous therapeutic areas, including cardiovascular, respiratory, and oncology.

HCA Healthcare ( HCA ) is one of the largest private healthcare providers in the U.S., known for its network of hospitals and outpatient facilities.

Eli Lilly ( LLY ) a “Big Pharma” immersed in the discovery, development, manufacturing, and commercialization of an assorted portfolio of pharmaceutical products.

Cardinal Health ( CAH ) is a healthcare services company providing pharmaceutical and medical products, as well as solutions for hospitals, pharmacies, and healthcare providers.

Regeneron Pharmaceuticals ( REGN ) is a biotech company focused on drug serious medical conditions, including eye diseases and cancer.

I included this list of companies for two reasons… one, you can see a mixture of industries in the XLV ETF. You have pharma, biopharma, biotech, medtech, insurance companies, providers, distributors, etc. Having a diverse list of profitable tickers bodes well for the ETF’s performance.

The second reason I list those companies is because they are tickers that are in the Compounding Healthcare “Bioreactor” growth portfolio, or “Healthy Dividends” dividend portfolio. My trading system relies on being extremely active with managing individual tickers, our final step involves rolling profits over into long-term investments. So, instead of trying to pick individual tickers to invest my trading profits, I could choose to throw a portion into the XLV because the ETF provides a better technical setup than some of the individual tickers.

Why Did I Change My Mind?

Admittedly, this idea is not novel to me and I have contemplated integrating some of the broader healthcare ETFs into my system for this reason, but I have almost always found a promising ticker to dump the profits into. Now, I am struggling to find tickers that are trading at a reasonable valuation, as well as have strong fundamentals, and have an attractive technical setup. Taking a look at some of my favorite growth stocks, many are incredibly overvalued but the technicals are showing strong bullish momentum. On the other hand, some speculative tickers are absurdly undervalued, but the charts are incredibly bearish.

Why Is This Happening?

We can point to a multitude of reasons why some industries and classifications of healthcare tickers are at all-time lows, while some are trading at all-time-highs. However, I believe some of the broader trends are coming from a few sources.

First, the healthcare sector is experiencing disruption from innovation and research. Indeed, the healthcare sector is characterized by constant innovation and research, however, we are seeing transformational leaps that going to benefit some companies/industries and hurt others. Companies investing in cutting-edge technologies, drug development, and medical breakthroughs can significantly influence the long-term outlook for whole tranches of tickers. For example, gene therapy tickers have the potential to provide a curative treatment that could make contemporary therapies inadequate and redundant. A new medical device can disrupt the whole industry and possibly remove the need for an entire class of drugs. An A.I. can disrupt the need for an entire classification of workers, or replace them entirely. Again, I am acquainted with the healthcare sector’s history of innovation and cutting-edge technology, but we are seeing an acceleration of development that is making some technology becoming obsolete in a matter of years, rather than a decade. As a result, tickers are trading at elevated volatility with the prospect of losing most of its value as a result of another company reporting a pipeline update or regulatory decision.

Another source of stimulus is the shifts in demographics, socioeconomics, and public health trends. Similar to the innovation idea, the changing trends in the population should have a dramatic impact on the healthcare sector. For example, healthcare companies have to adjust to the aging population in many developed economies, which should increase the demand for healthcare services. This demographic trend presents opportunities for companies to capitalize on the growing healthcare needs of an older demographic. In addition, the a growing issue of people being overweight and developing diabetes, as well as heart disease. Some companies are going to benefit from these changing trends, whereas others will not.

Global health events such as the COVID-19 global pandemic reshaped the healthcare landscape with new vaccines, new therapeutics, insurance companies benefiting from lack of elective surgeries, telehealth, delayed clinical trials, etc. Again, some companies benefited from this time and others struggled. Now that the public health emergency has ended, some of the laggards have become the leader and the beneficiaries are seeing their revenues fade. This turnover generated an immense amount of volatility that spiked some tickers to being overvalued, and others being crushed into dirt-cheap valuations. We Investors in XLV should consider the resilience of the healthcare sector in the face of unforeseen challenges and the ability of companies within the fund to adapt to changing circumstances.

These healthcare sector matters can often create a trading environment that prevents you from buying and/or selling tickers that are extreme valuations based on their fundamentals, yet, their technical status is preventing you from buying/selling a ticker with irrational momentum in either direction. Admittedly, this is a great opportunity to start employing options to take advantage of the extremes and assuage the volatility concerns. On the other hand, options can be risky and require vigilance to ensure you can capitalize on the transitory opportunity. Even as an active trader, I simply want a less intensive option that can present a happy median, or possibly a “Goldilocks” alternative.

Risks and Considerations

While XLV offers exposure to a diverse range of healthcare companies, investors should be aware of potential risks. Market and economic fluctuations, regulatory changes, and unexpected events can impact the fund's performance. Additionally, individual company risks within the ETF should be considered. At the moment, the XLV is dominated by its top-10 holdings, which make up ~54% of its assets. Therefore, investors need to stay informed about the latest developments in both the healthcare sector and the individual companies within the ETF. Regularly reviewing the fund's holdings, and performance reports, and keeping an eye on industry trends can aid in making well-informed investment decisions.

My Plan

The XLV presents itself as an easy opportunity to gain exposure to the dynamic and essential healthcare sector. However, one must remain vigilant about the fund's performance, underlying holdings, and key trends shaping the industry, to make an informed decision to invest in XLV or choose to target one of the individual tickers.

At the moment, I think the XLV is showing a nice setup after breaking the downtrend formed from the December 2022 high.

In addition, the ticker has a bullish rating for the Go-No-Go indicator and is close to breaking above the volume shelf and resistance around $137 per share.

For me, I am looking to add to my minuscule position once XLV drops below my Buy Threshold. However, I will look to book profits at my Sell Targets, to get XLV to a “House Money” position and keep the remaining shares on the table for a long-term investment funded by the market.

Going forward, I will strongly consider adding my trading profits to the XLV when scouring my portfolios does not yield a high-conviction opportunity.

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