What are we looking for?
U.S. healthcare stocks with strong growth prospects and reasonable valuations.
As U.S. stock markets continue to soar to lofty new heights, many market watchers are concerned about overall valuations. However, with most fixed income investments offering tiny yields, there are few alternatives to stocks. We can however, look for sectors which remain relatively undervalued compared to their peers. According to Morningstar, healthcare is one of three undervalued sectors in the U.S. market. This sector has been beaten down over concerns of additional regulation of the industry in the event of a Hillary Clinton presidency.
The screen
We begin by setting a minimum market capitalization threshold of $2.5-billion (U.S.) to focus on larger, more established companies in the U.S. market.
Next, we will look for companies that have reasonable valuations based on two traditional valuation metrics. We will select companies with forward price-to-earnings (P/E) ratios of 17 or less. We will also use a price-to-sales filter of 6 or less. Valuations for acquisitions are often set as a multiple of the price-to-sales ratio.
Last, in order to focus on companies with strong growth prospects, we will limit our list to companies with projected earnings per share (EPS) growth rates for this year of 10 per cent or more.
More about Recognia
Recognia is a global leader in automated quantitative analysis and engagement solutions for retail online brokers and institutions. Recognia's product suite provides actionable trading ideas based on technical and fundamental research covering stocks, ETFs, indexes, forex, options and commodities.
What did we find?
Mylan (MYL) tops our list, by performing the best across all factors in the screen, with an extremely low forward P/E ratio of 7.5 and price-to-sales ratio of 2.2. Mylan stock has been hammered in recent weeks over pricing of their Epipen product. After achieving a 52-week high of $55 (U.S.) last December, the stock is now trading around $37.
United Therapeutics (UTHR) has the highest projected annual EPS growth rate on our list at 21 per cent. In late July, the company announced strong second-quarter earnings with revenue up 19 per cent and EPS up 130 per cent year over year.
Pfizer (PFE) is the largest company on our list with a market cap in excess of $200-billion. Pfizer has been one of the Dow's worst performers over the past two months after deciding it would not split itself into two companies. Investors did not like the decision but this does not diminish the company's strong EPS growth prospects.
Historical performance
Recognia Strategy Builder provides a backtesting capability to evaluate how well an investing strategy would have worked in the past. Using a five-year historical period with quarterly re-balancing, the screen described had a 30.8 per cent annualized return compared to 12.0 per cent for the S&P 500.
The investment ideas presented here are for information only. They do not constitute advice or a recommendation by Recognia Inc. in respect of the investment in financial instruments. Investors should conduct further research before investing.
Peter Ashton is vice-president of retail and self-directed investing at Recognia Inc.