Tag Archives: management

Health Insurers: If You Can’t Beat Them, Join Them

Summary I believe the iShares U.S. Healthcare Providers ETF is worth considering adding to portfolios. There are three growth drivers for the health insurance industry: Above Market Sales Growth, Potential Cost Controls and less competition. With little chance of Obamacare being significantly changed or replaced anytime soon, health insurers will continue to report record revenues for an extended period of time. In this article, I will be explaining why I believe the iShares U.S. Healthcare Providers ETF (NYSEARCA: IHF ) is worth considering, because IHF has a large exposure to health care insurers. The reason I am focusing on health care insurers is I recently received a letter from my insurer saying my health care insurance plan would canceled and thus I have to find new insurance. The new plan Regence BlueCross BlueShield suggested for me was the “cheapest” premium plan that the company offers, which is what I was looking for. I am a healthy 29 year old and I have not needed to go to the doctor for years, and only for minor items like a sinus infection etc, therefore a cheap plan is ideal for me. However, the new “cheap” plan costs 156% more [yes you read that correctly] than my current plan, and thus is the reason I started looking at IHF because of its large exposure to health insurers. If my wallet is going to be emptied by health insurers, I might as well invest in health insurance stocks to minimize the impact of the significantly higher premiums I would have to pay. This is a massive opportunity for insurers when they are able to cancel plans like mine and charge significantly higher rates to healthy individuals who do not use their health insurance or use it sparingly. Growth Drivers Driver #1: Above market sales growth Health Insurers make up just over 52% of the holdings of IHF and over the last five years IHF has had a total return of just over 155% compared to a nearly 91% total return for the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ). (click to enlarge) [Chart from dividendchannel.com] This outperformance is driven by the above market growth that health insurers have had over the last five years. The average sales growth for Aetna (NYSE: AET ), Anthem (NYSE: ANTM ), Cigna (NYSE: CI ), Humana (NYSE: HUM ) and United Health (NYSE: UNH ) over the last five years has been 10.76% compared to 6.64% for the average of all S&P 500 companies. When health insurers cancel plans like mine, and charge exorbitantly higher rates for new plans as well as continuing to raise rates for everyone else, it is easy to see that sales will continue to grow at a faster pace than the rest of the S&P 500. Driver #2: Prescription drug cost controls Recently Hilary Clinton announced her plan to try to control and lower the costs of prescription drugs. If prescription drug cost controls were to be put into place, health insurers would be the big winner in my opinion. If prescription drug costs are significantly reduced under the type of plan proposed, do you think health insurers would pass that cost savings to consumers? In my opinion there is no way that health insurers would pass these cost savings onto consumers through lower premiums. Therefore, if premiums remain the same and/or continue to grow and insurers have to pay less for prescription drugs their margins would expand significantly. Driver #3: Less competition With Aetna purchasing Humana and Anthem purchasing Cigna both within the last couple months, this will mean even less competition for health insurance at a time when more competition is what is needed. If both these mergers pass regulatory approval, consumers will not have as many choices when it comes to health insurance options. In a recent Forbes article, it quoted supporters of the deal saying: Aetna and Humana and supporters of the deal say the larger insurer would allow the plans to extract price cuts from doctors and hospitals, which would be a good thing. Yes, it would be a good thing if costs came down, but as I noted above, in no way do I believe that insurers would pass those costs savings onto customers through lower premiums. Closing Thoughts In closing, I believe the iShares U.S. Healthcare Providers ETF is worth considering adding to portfolios because of its 50%+ allocation to health insurers, which have strong tailwinds given that it is likely Obamacare is not going anywhere anytime soon. With significantly higher sales growth rates than the rest of the S&P 500, the potential for higher margins because of cost controls and less competition, it is easy to see that health insurers will continue to be highly profitable and a great option for those looking to offset premium increases. The statement from the Aetna CFO says it all: We grew operating revenue to a record quarterly level of over $15.1 billion, driven by higher premium yields and year-over-year growth in medical membership. – AET Transcript Disclaimer: See here .

Taking Stock Of International ETFs After The Sell Off

Summary Exchange-traded funds (ETFs) that track international markets started the year with tremendous promise that ultimately lost ground to a host of fundamental concerns. The hazards in China and Brazil have been well documented and weighed as a primary concern for growth in emerging market countries. The combination of these issues alongside the volatility in U.S. stocks has led to wide-spread selling in broad-based indexes over the last five months. Exchange-traded funds (ETFs) that track international markets started the year with tremendous promise that ultimately lost ground to a host of fundamental concerns. Despite the best efforts of the European Central Bank to stimulate economic growth through quantitative easing programs, both developed and emerging markets overseas have seen momentum vanish in 2015. The hazards in China and Brazil have been well documented and weighed as a primary concern for growth in emerging market countries. In Europe, the fiscally conservative German stock market was rocked by the Volkswagen scandal alongside other financial worries. The combination of these issues alongside the volatility in U.S. stocks has led to wide-spread selling in broad-based indexes over the last five months. The iShares MSCI EAFE ETF (NYSEARCA: EFA ) is the largest international exchange-traded fund with over $56 billion in total assets. EFA tracks 900 stocks in both developed and emerging foreign markets. In its market cap weighted form, the top country allocations are Japan, United Kingdom, and France. Since hitting a high in May, EFA has fallen more over 18% to the September low – just barely avoiding a drop into bear market territory . This route was initially started by weakness in emerging markets, but has seen Europe join in to drive prices lower in recent months. Like nearly all risk assets, the October rally has led to some relief of the selling pressure in EFA and barely pushed the index back into the black for the year. Another key item of note in international markets is the price action of the U.S. dollar, which sent so much money spinning into currency-hedged ETFs at the beginning of the year. The P owerShares DB USD Bull ETF (NYSEARCA: UUP ) has been decidedly flat over the last five months. Recent price action may even suggest a mild downside bias, which could lead to a test of support at $24.50 in the near future. ETFs such as the WisdomTree Europe Hedged Equity ETF (NYSEARCA: HEDJ ) benefited from the rise of the dollar as the built-in currency arbitrage worked as a tailwind in the first half of the year. Now there is less of a convincing case that the U.S. dollar will continue its rally and lend weight behind the currency hedged theme. A falling dollar would ultimately make a traditional international fund such as the Vanguard FTSE Europe ETF (NYSEARCA: VGK ) a more attractive near-term opportunity. Of course, this is predicated on the expectation that the October rally in global stocks has further room to run through the end of the year. I would sum up the state of international markets in the following bullet points: From a pure price perspective, broad-based international ETFs were leaders on the upside and consequently leaders on the downside relative to U.S. markets this year. That makes them a more aggressive play for those that are positioned for a rebound. While it appears that there are sound fundamental and technical reasons to avoid international stocks, they still offer compelling upside opportunity in the context of a well-diversified portfolio. Your allocation to this sector will likely be governed by your overarching risk tolerance. For core international exposure , I believe that it’s important to stick with broad-based indexes rather than trying to hand pick specific countries or sub-regions. The risk of hits and misses in concentrated areas make for a less compelling investment proposition. International investors should also keep one eye on the currency trends as well. Even if your fortunes aren’t tied to a currency-hedged ETF, there are still important correlations that can be gleaned from observing forex markets. Remember that a higher dollar (lower euro) favors currency-hedged positions, while a lower dollar favors traditional un-hedged exposure. The Bottom Line Growth-oriented investors can still benefit from a strong comeback in international stocks given the backdrop of global stabilization. However, it is imperative to have a counterintuitive mindset that allows you to identify opportunity on the way down and curb your enthusiasm in the late stages of a rally. Be mindful of the inherent volatility in international ETFs versus the major U.S. indexes as well.

Comparing Consolidated Edison And American Electric Power

In a previous article I detailed the past history of Consolidated Edison. In detailing this observation, it can be helpful to compare that security to others. This article compares the results of Consolidated Edison and American Electric Power, along with how you might think about the securities moving forward. In a previous article I looked at the past business and investment growth of Consolidated Edison (NYSE: ED ). This is useful for two reasons: it gives you a historical view of the company and it allows you to better think about potential repeatability moving forward. The historical look gives you much more insight than a simple stock price. Instead of seeing a line squiggle about, you can observe how revenues translate to earnings, earnings to earnings-per-share, EPS to share price growth and ultimately to your total return. There are a lot of factors at play that are not adequately captured in a stock chart. Moving forward, this type of information allows you think about the business in the future, with a solid understanding of how it previously got to where it was. If past investment growth was driven by an uptick in the earnings multiple or reduction in the share count, for example, these would be areas that you might want to explore on a forward-looking basis as well. Of course looking at a single security, even through the lens of various return drivers, does have its limitations. Its hard to tell whether revenue growth or investment growth is reasonable or not without also comparing this to other similar firms. As an illustration, let’s compare Consolidated Edison to American Electric Power (NYSE: AEP ), a similar-sized utility, to get a better feel for the company. Here’s a look at both companies historical business and investment growth during the 2005 through 2014 period: ED AEP Revenue Growth 1.1% 3.9% Start Profit Margin 6.2% 8.6% End Profit Margin 8.3% 9.6% Earnings Growth 4.5% 5.2% Yearly Share Count 2.0% 2.4% EPS Growth 2.1% 2.6% Start P/E 15 14 End P/E 18 18 Share Price Growth 4.0% 5.6% % Of Divs Collected 46% 43% Start Payout % 76% 54% End Payout % 70% 61% Dividend Growth 1.1% 4.1% Total Return 7.3% 8.4% From this table we can learn a variety of things. First, note that AEP was able to grow its revenues at a faster rate than Consolidated Edison. AEP also began with a higher net profit margin, and grew this over the period. Interestingly, due to the lower starting base, Consolidated Edison actually made up some growth ground in this area. Total earnings growth for Consolidated Edison came in at 4.5% per year against 5.2% for AEP. Part of the higher growth for AEP was offset on the shareholder level due to having to issue more shares. Once you get to earnings-per-share Consolidated Edison was growing at 2.1% per year against American Electric’s 2.6% annual growth. Allow the companies got there a bit differently, shareholders saw markedly similar growth during the time. Shares of both companies began the period trading around 14 or 15 times earnings and moved up closer to 18 times earnings by the end of the period. The P/E expansion was slightly higher for AEP, resulting in 5.6% annual share price growth versus Consolidated Edison’s 4% annual growth. This is an important point. It’s not just the ending valuation that matters, but also the expectations that lead up to that value. Consolidated Edison started with a higher dividend yield, but grew its payout at a slower rate. Still, an investment in the New York utility would have provided more aggregate income, resulting in closer overall returns. An investment in AEP would have generated 8.4% annual gains, while an investment in Consolidated Edison would have provided 7.3% yearly gains. As a point of reference, based on a $10,000 starting position, that’s the difference between accumulating $18,900 and $20,600. American Electric Power was able to outperform Consolidated Edison in the past due to its slightly faster earnings growth rate and higher valuation uptick. Consolidated Edison provided more dividends per dollar invested, but still trailed slightly. This type of view can illuminate a few things. First, even though the growth rates weren’t spectacular the returns were reasonable. A high starting yield and an uptick in valuation for both companies drove this result. Perhaps just as important, it shows you why one company might have turned in better performance and not just that it happened. Moving forward you could think about an investment in either security in a similar light. Here’s where things get less compelling, in my view. Below I have presented the same table substituting what actually occurred in the past with a hypothetical example for the next decade: ED Forecast AEP Forecast Revenue Growth 1.1% 3.9% Start Profit Margin 8.3% 9.6% End Profit Margin 9.3% 10.6% Earnings Growth 2.3% 4.9% Yearly Share Count 2% 2.4% EPS Growth 0.4% 2.4% Start P/E 18 17 End P/E 15 15 Share Price Growth -1.6% 1.1% % Of Divs Collected 40% 46% Start Payout % 72% 63% End Payout % 72% 63% Dividend Growth 0.4% 2.4% Total Return 2.3% 4.7% On the top line I used the exact same revenue growth, 1.1% per year for Consolidated Edison and 3.9% for AEP. Naturally these could be switched around or any number of different iterations, but the above is used specifically for a demonstration. The next two rows show improvement in the net margin of each company. So you have two companies growing revenue at the same rate as before, and actually keeping more of those profits. Yet the overall growth rate for both companies would still be lower. As a result of coming off a higher base, formulating growth becomes more difficult – it’s not enough to improve, you would need to improve by a greater and greater margin. If the number of shares outstanding also increased at past rates, you would be looking at rather slow earnings-per-share growth rates. Not that the past growth rates weren’t spectacular, but these would be noticeably lower still. With the same business performance, the growth rate is lower off a now higher base. It becomes more and more difficult to offer continued growth. The big difference between 2005 and 2015 is that today you’d likely want to be more cautious in your future multiple anticipation. Its certainly possible that these two companies could trade with P/E ratios of say 20 in the future, but I would contend that this might not be altogether prudent to expect. As such, share price growth could trail the already quite slow earnings growth. In turn, your main total return reliance would rest with dividends. Although the dividend yields are above average – sitting around 4% – they wouldn’t be expected to grow very fast. As such, you might anticipate collecting the dividend yield, seeing it keep pace with or even trail long-term inflation and not much more. A lack of strong growth, coupled with average to above average expectations, makes for a less compelling value proposition. Of course the above assumptions could be too pessimistic. Analysts are presently expecting 3% intermediate-term earnings growth for Consolidated Edison and 5% growth for AEP. Still, these assumptions would only bump the return anticipations up to the mid-single-digits. And to be complete, these higher assumptions can miss share count dilution and the possibility of a lower valuation in the future. In short, both Consolidated Edison and AEP as businesses didn’t grow very fast over the past decade. In spite of this, investors saw reasonable returns due to an uptick in what investors were willing to pay to go along with a solid ongoing dividend. In the future, you likely still wouldn’t expect these companies to grow very fast. However, this time the returns might not be as reasonable. The valuations are higher and consequently dividend benefits a bit lower. As the growth rate of a security slows, the relative expectations and valuation paid become more and more important.