SSR Index of Current-Quarter Healthcare Demand Growth, Interim 3Q13 Estimate

Richard

We expect 3.6% (nominal) y/y growth in US health services demand during 3Q13, the product of 2.1% growth in unit demand, and 1.4% price growth. The 2.1% unit growth forecast is a 30bp retreat from our initial 3Q13 estimate; the revision is driven in large part by a stalling, during the quarter, of growth for hours worked in healthcare settings

The ‘fiscal cliff’ sequester had an even larger impact on nominal, national average health services pricing (via Medicare) in 2Q13 than we had anticipated, trimming 60 bps sequentially and dropping y/y pricing growth from 1.9% to just 1.3% — the slowest price growth observed in at least 20 years. Though our model projects a 10 bps recovery in 3Q13 pricing growth, that 1.4% rate would be the lowest in the last 20 years, barring last quarter

Independent of our quarterly growth rate models, we handicap the odds of a trend break, i.e. a significant acceleration or deceleration in demand. The trend-break model suggests that acceleration in demand during 3Q13 is only slightly more likely than not (61%)

We continue to believe that demand is weak primarily for cyclical reasons: low employment translates into a smaller percentage of households having the benefit of the most generous source (employer-sponsored) of health coverage. Cyclical improvement (employment gains) and the implementation of structural changes (expansion of Medicaid eligibility, and the initiation of state health insurance exchanges) are likely to expand the availability of health coverage in the relatively near-term, stimulating demand growth

We recommend a healthcare portfolio that balances US focused, volume levered names with selective bets on innovation (specifically innovator companies with pending or recent major new product approvals, and/or high-quality early- to mid-stage pipelines that appear undervalued)This translates into overweight positions for Biotech; Hospitals; select Non-Rx Consumables (especially more US-focused names such as CFN and OMI); MedicaidHMOs (like WCG and MOH); Health IT; and select Dental names (particularly more US-focused names with product lines that include higher-mix items, such as XRAY and PDCO)

We recommend underweight positions in Large-cap Pharmaceuticals and Specialty Pharmaceuticals (on US real pricing power concerns); PBMs (especially ESRX), DrugRetail (especially CVS), and Drug Wholesale (especially ABC) (on the loss of AWP pricing, and risks of PBM disintermediation); Device Innovators; Medical Equipment (health capital spending will favor information technology in the near term); Diagnostic Labs; and Research Tools / Services (implied revenue growth exceeds R&D spending growth)

For more detail, please see The SSR Healthcare Quarterly, published June 26, 2013

For our full research notes, please visit our published research site.

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