As the coronavirus spreads, some healthcare companies have warned about falling revenues, while other firms are working on a treatment – and seeing their stocks rise. But Portfolio Manager Andy Acker says investors should not lose sight of the big picture.
- Healthcare stocks sold off along with the broad market after a surge in coronavirus outbreaks. But the impact to the sector could be more nuanced than the market reflects.
- Companies with significant exposure to China believe demand will only be temporarily delayed. However, the market may be overestimating how quickly a treatment can come to market.
- As such, we caution investors against trying to pick healthcare winners and losers during the coronavirus outbreak and believe a long-term perspective remains prudent.
News of a surge in coronavirus outbreaks outside of China has raised fears that the respiratory disease – officially named COVID-19 – could turn into a global pandemic. That fear led to a significant sell-off in global equities and rally in 10-year Treasuries, where yields dropped to all-time lows.
Healthcare stocks were also caught up in the selling. But in our view, the impact of COVID-19 on the sector could be more nuanced than the market reflects.
Monitoring near-term volatility
First, we still don’t know how meaningful the virus will be over the long term. Some patients carrying COVID-19 are asymptomatic, raising concerns that cases are going undetected and could fuel the disease’s spread. In China specifically, testing has been largely confined to individuals seeking treatment. As such, when China’s economy – still running in low gear – eventually revs up, the risk of new outbreaks could rise. Second, China is the world’s largest manufacturer of active pharmaceutical ingredients (API), the raw components used to produce medicines. Last week, the US Food and Drug Administration (FDA) warned about potential medicine shortages because of disruption to the supply chain.
In the near term, healthcare companies most affected will likely be those with significant sales or manufacturing in China. Pharmaceutical giant AstraZeneca, for example, said the coronavirus could have an “unfavourable impact” on revenue this year. In 2019, AstraZeneca’s sales in China grew 35% year over year, adding up to 21% of total product revenue.
Life sciences tools and supplies firms and medical device makers also tend to have large stakes in China. For example, Agilent Technologies, which makes laboratory instruments and diagnostic tools, earns one-fifth of its revenue in China. In a recent earnings statement, management estimated that $25 million to $50 million of sales could be impaired during the first half of 2020.
Keeping perspective of long-term impacts
Even so, as a percentage of total revenue, the coronavirus’s impact could be minimal. AstraZeneca is still expecting to grow sales at a high single-digit/low double-digit rate in 2020. The $50 million in potential lost sales for Agilent would account for only 1% of the company’s projected revenue for 2020 (Source: Bloomberg, as at 25 February 2020). Even then, the firm currently expects to make up the business in the second half of the year. And pharmaceutical companies, which typically maintain months’ worth of API inventories, have not reported supply shortages yet.
In the meantime, several biotechnology and pharmaceutical firms are working to develop treatments for COVID-19. Gilead Sciences drug Remdesivir, an experimental antiviral drug originally developed for Ebola, is now in clinical trials in China for COVID-19. Early results could be delivered in April, and one senior official at the World Health Organisation said recently that Remdesivir shows the most potential as a treatment. Shortly after the official’s remarks, Gilead’s stock hit a 52-week high (Source: Bloomberg, as at 24 February 2020).
Years of research centred on HIV have improved the industry’s knowledge of antivirals, and AbbVie’s HIV drug Kaletra has been approved in China to treat pneumonia related to the coronavirus. A number of pharmaceutical and biotechnology companies are also working to create a vaccine, with many deploying gene-based technologies to try to speed development. Biopharmaceutical firm Moderna announced it has readied a drug for phase I testing in record time (only six weeks) using messenger RNA therapy, a new technology that, in this case, can essentially turn the body into a vaccine-producing factory.
Still, it is important to keep perspective. It will take months, if not longer, to bring an effective therapy or vaccine to market. Furthermore, there is no guarantee that an approved drug would have a meaningful impact on a company’s bottom line. These viruses, while problematic, are not chronic diseases, so patients typically take medicine for only a few days. Stockpiling can also face limitations, as discovered during the Ebola outbreak: Merck & Co spent more than five years developing a vaccine for Ebola that has yet to generate meaningful sales. Furthermore, we still don’t know whether COVID-19 is seasonal (meaning it dissipates in warm humid air) and whether outbreaks will recur from one season to the next (such as the flu), all of which could impact a drug’s commercial opportunity.
In the end, we would caution against trying to pick winners or losers in the coronavirus outbreak. Certainly, an approved vaccine or antiviral would offer much-needed hope, especially if the coronavirus emerges as a seasonal infection. But in our view, healthcare’s secular tailwinds remain the sector’s most important growth drivers, and we think investors would be better served to focus on these long-term opportunities, not near-term market moves.