Why Investors Should Consider Pharmaceutical ETFs

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August 26, 2013 12:19pm NYSE:IHE NYSE:PJP

healthcare-etfsThe healthcare space, no doubt, is one of the leading sectors this year courtesy of the incredible performances by major drug companies in both pharmaceutical and biotechnology industries. While the biotech sector includes the fastest growing

companies in the healthcare world and is easily crushing the overall market, pharma is not far behind.

The pharma industry seems back on track and is showing strong signs of recovery from one of the biggest patent cliffs this year. This is especially true given that the S&P Pharmaceutical index jumped nearly 32% in the year-to-date time frame. This is well above the gain of 21.5% for the S&P 500 Healthcare index and 13.5% for the S&P 500 index.

While the industry is not completely free from ‘genericization’, the major patent expiries are over and are done with. An aging population, higher rates of chronic disease, and growing demand in emerging markets are boosting confidence in the sector for the long-term too.

The pharma sector is also benefiting from the sector rotation movement. Investors of late have been moving away from low growth, high dividend sectors like utilities and REITs into higher growth, riskier sectors like financials and more volatile healthcare names (read: 2 Great Healthcare ETFs in Focus).

Further, the sector also looks well positioned to benefit from coming Obamacare changes. The implementation of this act will be a boon for drug makers, as they look to extend health benefits to the larger base of uninsured persons across the U.S., potentially opening up a huge market for pharma firms.

Top Pharma ETFs to Consider

Given the strong outlook for the pharma industry, investors seeking high long-term returns could consider ETFs tracking this space for exposure. While there a number of quality choices in the space, we have highlighted some of our favorite top performing pharma ETFs below, any of which could make for excellent investments in today’s growth-focused market:

PowerShares Dynamic Pharmaceuticals Fund (PJP)

This is by far the most popular choice in the pharma corner of the healthcare segment. This ETF follows the Dynamic Pharmaceuticals Intellidex Index.

The product trades in good volume of more than 130,000 shares a day, and has a decent level of assets under management of about $660 million. The fund charges 63 bps in fees and expenses from investors.

With holdings of 30 stocks, the fund is moderately concentrated in the top 10 holdings and focuses more on large caps with 59% of total assets. Small caps account for 26% while the rest goes towards mid caps. Johnson & Johnson (JNJ), Gilead Sciences (GILD) and Pfizer (PFE) occupy the top three spots in the basket with a combined share of nearly 15%.

In terms of industrial exposure, 69% of assets are allocated to pharmaceuticals while 22% are allotted to biotechnology. The product has added an impressive 28.1% year-to-date and over 35% in the trailing one-year period (read: Top ETFs of the First Half of the Year).

SPDR S&P Pharmaceuticals ETF (XPH)

The fund tracks the S&P Pharmaceuticals Select Industry Index, holding 32 securities in its basket. The product has $510 million in AUM and trades more than 50,000 shares in volume a day, while its cost is just 35 basis points a year.

The product is well spread across each security as top 10 holdings account for less than 37% of the total assets. Questcor Pharmaceuticals, Mylan and Santarus take the top three positions in the basket with a combined 13.4% share. Meanwhile, large caps account for 44% of total assets, small and mid caps take the remainder.

In terms of performance, the product generated more than 32% returns year-to-date and nearly 27.8% in the trailing one-year period.

iShares U.S. Pharmaceuticals ETF (IHE)

This ETF tracks the Dow Jones U.S. Select Pharmaceuticals Index and holds 41 securities in its basket. The product has amassed nearly $500 million in assets and trades in volume of roughly 34,000 shares per day, while charging 46 bps a year in fees.

From a securities look, the product is concentrated as the top three holdings – JNJ, PFE and Merck (MRK) – together make up for 27% share in the basket. IHE is a large cap-centric fund accounting for at least 63% of the assets.

The ETF rose over 20.5% so far this year and a similar amount in the trailing one-year period (read: The Comprehensive Guide to Pharmaceutical ETFs).

Bottom Line

The long-term outlook remains promising for pharma ETFs. Pharma will continue to grow no matter what happens with rates, especially given the demographic shift in the U.S. and the insatiable demand for new treatments and drugs for a variety of illnesses.

Thus, these products could be an interesting choice for investors seeking higher returns from the market at this uncertain time.

This article is brought to you courtesy of Eric Dutram.

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