SSR Index of Current-Quarter Demand Growth; Raising Estimate to 3.3% from 3.1%

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Richard Evans / Scott Hinds / Ryan Baum

SEE LAST PAGE OF THIS REPORT FOR IMPORTANT DISCLOSURES

203.901.1631 /.1632 / .1627

richard@ / hinds@ / baum@sector-sovereign.com

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June 18, 2012

SSR Index of Current-Quarter Demand Growth; Raising Estimate to 3.3% from 3.1%

  • Hours worked in healthcare settings have grown more rapidly; this signals strong patient volumes, thus the increase in our estimate of unit demand from 1.4% to 1.6%. Our estimate of nominal pricing is unchanged at 1.7%
  • We estimate only a 7% likelihood (down from 11%) of 2Q12 demand growth falling below the y/y rate measured in 1Q12
  • We expect the cyclical recovery in healthcare demand to continue through 2Q12 despite weak May (whole economy) jobs data, in large part because of the lag between hiring and growth in healthcare demand. This said, we recognize job growth must continue at rates above the May levels for healthcare demand to continue its cyclical recovery in the back half of 2012
  • We continue to recommend a pro-US / pro-cyclical tilt; our favorite subsectors are Hospitals, Non-Rx Consumables, and Commercial HMOs

 

Last month we introduced the SSR Index of Current-Quarter Health Services Demand[1]; in this note we provide the first of two scheduled revisions to our estimate of 2Q12 demand growth. The final revision will occur on or about July 18. Our preliminary estimate called for 3.1% y/y growth, the product of 1.4% growth in unit demand and 1.7% growth in nominal pricing. In this first revision we incorporate measures of economic activity and pricing that have been published since the preliminary estimate; we now estimate 2Q12 health services demand growth of 3.3%, the product of 1.6% growth in unit demand and 1.7% growth in nominal pricing (Exhibit 1)

Our estimate of unit demand relies on several measures of underlying economic activity; included among these variables are measures of both general economic activity and health-system specific activity. The increased estimate of unit demand in this first revision is driven in large part by an acceleration in hours worked in healthcare settings, which is a strong indicator of improving patient volumes

Separate from but complimentary to our estimates of demand growth, we model the probability of an inflection in trend. In our preliminary estimate we gave an 11% probability of 2Q12 demand growth falling below 1Q12 demand growth; we now estimate only a 4% likelihood of deceleration in 2Q12

It’s important for us to again acknowledge the weak May jobs report, particularly given the importance of employment to unit demand for health services. Also, we should be clear that the more detailed healthcare-specific hours worked data we use for estimating concurrent unit demand generally are published one month later than jobs data for the economy as a whole; i.e. we have April healthcare hours worked data, but not May. Because May (all-industry) jobs data were weak, we see the risk of May healthcare hours being weak once these are available (July); nevertheless we believe our estimate of 2Q12 health services demand will be on-target. The main reason is the lag between general employment and healthcare demand – in our last note[2] we showed that new hires consume less than ‘legacy’ employees for at least their first year (Exhibit 2). This implies that the impact of employment growth over the last year has not yet been fully reflected in health services demand growth; accordingly some weakness in May jobs for the economy as a whole should not produce a measurable weakening of health services demand as quickly as 2Q12, though we accept the obvious fact that the cyclical demand recovery in healthcare cannot continue much past 2Q12 unless job growth in the general economy returns to levels well above those measured in May

We continue to recommend a pro-US, pro-cyclical tilt to healthcare portfolios – despite the weak May jobs report. This tilt reduces exposure to European economic risks, not only by virtue of its US focus, but also by avoiding innovators, whose prices are disproportionately targeted by the EU during times of economic stress. We recognize that a stable EU coupled with only weak US jobs growth would minimize the odds of our strategy outperforming; however we’re hesitant to abandon the strategy on a single jobs report, particularly given its defensive utility vis a vis ongoing EU uncertainties. Our favored sub-sectors for this theme are Hospitals, Non-Rx Consumables, and the Commercial HMOs; though we also see Clinical Laboratories, Drug Wholesale, Drug Retail, and Dental Supplies as viable means of establishing a pro-US, pro-cyclical tilt over the shorter-term

  1. SSR Index of Current-Quarter Health Services Demand Estimates Growth within 50bps, Before Earnings are Reported”, May 16, 2012, SSR
  2. The Mechanics of Commercial HMOs’ Gross Profits: Why MLRs Should Remain Stable, June 14, 2012, SSR
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