The Apparent Link Between Employment and Healthcare Demand

Richard

Privately insured US persons (and presumably households) consume 2.7x the healthcare of age- and health-status adjusted persons (and households) who are uninsured

As employment rises and falls, households shift from one category (un-/under-employed, un-/under-insured) to another (employed / insured), and this appears to be by far the largest driver of national changes in ‘unit’ demand for healthcare across the current cycle

Since 2008, job losses explain a 3.1% drop in per-capita unit demand among civilian working-age households, and at least a 2.2% drop in per-capita unit demand at the national level – i.e. very nearly the entire drop in demand

As employment rises the effect reverses; we estimate a 70bp increase in per-capita unit demand among the civilian working-age (and their beneficiaries) for each 1% gain in adjusted (for labor force declines) employment

This further underscores our thesis that healthcare ‘unit’ demand grows as the economy (and employment) improve; and, our related thesis that commercial HMOs are a value despite rising utilization (commercial HMOs benefit from rising enrollment, but are not exposed to the major source of rising utilization, thus gross margins can remain stable)

Since peak unemployment (October 2009) consensus forward (FY+2) earnings estimates for non-financial / non-health companies have grown steadily (as have share prices), consistent with improving economic conditions. In contrast, forward estimates for volume-sensitive healthcare names are relatively stable (as are forward PEs); this implies: 1) that the market is broadly willing to price in cyclical improvements in longer-term earnings power; and 2) that more narrowly, the market does not expect cyclically driven gains in earnings for the volume-sensitive healthcare names. In effect this argues that the market views weak trailing healthcare demand as a secular new reality, rather than what we believe it is far more likely to have been – a cyclical trough

We continue to favor a pro-US / pro-cyclical tilt to healthcare portfolios; in particular we favor Hospitals and HMOs (held together to hedge SCOTUS risks), and non-Rx consumables (e.g. COV, BAX, BCR, BDX, HSP, OMI, CFN)

Until recently we stayed away from Dental, Drug Distribution, Drug Retail, and Diagnostic Laboratories due to a variety of middle to longer term structural concerns (except for Dental where our concern had been purely valuation). Because we now feel better able to time the cyclical demand recovery – and in fact believe that it is ongoing – we see these sub-sectors benefitting from volume gains (and in the case of Dental, mix gains) before our structural concerns are likely to weigh on valuations

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