By John Wasik
CHICAGO, Oct 28 (Reuters) - In the shadow of the bungled rollout of the U.S. Affordable Care Act health insurance exchanges, a handful of companies are quietly profiting from the biggest expansion of healthcare since Medicare in the mid-1960s.
Companies that were supposed to be collateral damage from the new wave of ACA regulations have become Wall Street darlings. Those that specialize in health records technology, insurance and pharmaceuticals will benefit from the need for more drugs, medical services and policies through the state and federal exchanges.
In its first weeks, the ACA healthcare exchange websites were swamped with more than half a million Americans applying for insurance, with more than 19 million visiting the federal site alone. Despite numerous technical roadblocks, those strong traffic numbers bode well for companies that benefit from selling new policies along with the Medicaid expansion that is part of the new health law.
"ACA is here to stay," says Alex Gurvich, a portfolio manager for the Rockledge Group in New York. "It will go through some changes, but the fundamental valuations support outperformance in the healthcare sector. A lot of companies did poorly coming up to the ACA rollout, but it turned to be the other way around."
The most obvious beneficiaries have been mega-insurers such as UnitedHealth Group Inc, whose shares at Friday's close were up more than 22 percent over the past year. That is nearly 5 percentage points better than the Standard & Poor's 500 Index.
Less-visible plays such as WellPoint Inc, which operates under Blue Cross/Blue Shield licenses in 14 states, have also done well. The stock is up 37 percent over the past year.
Why have private insurance companies done so well when the focus is on public exchanges offered through the ACA? Because the healthcare law provides a conduit to private insurance, along with consumer protections that eliminates discrimination for pre-existing conditions.
The prospect of adding up to 30 million new customers through the public exchanges will also lead to purchases of technology and medical equipment. To offer competitive rates to millions of Americans, insurers and providers alike will need to invest in cost-effective software and hardware that automates everything from billing to medical records.
The medical equipment and healthcare provider subsectors appear to be undervalued at present, according to Gurvich.
For example, shares of Express Scripts Holding Co, which offers healthcare administration and management services, are in bargain territory with a forward price/earnings ratio of 12, compared with 18 for the S&P 500 and 24 for the healthcare sector. Still, the stock is up nearly 13 percent year to date.
Rather than just a handful of stocks, though, an entire portfolio that holds insurance, technology and pharmaceutical companies makes for a more diversified sampling of the sector.
The iShares U.S. Healthcare Providers ETF is a good place to start. It reflects the Dow Jones U.S. Select Healthcare Providers Index and costs 0.46 percent annually for management expenses.
The fund, which owns insurers such as Aetna Inc, Humana Inc and service companies such as Quest Diagnostics Inc, is up 27 percent over the past year.
A worthy alternative is the Vanguard Health Care ETF , which rose nearly 35 percent in that time and costs much less to own than the iShares fund - 0.14 percent annually. The Vanguard fund has a much more concentrated focus on pharmaceutical and biotech stocks, with its top holdings in mega-cap companies like Johnson & Johnson and Pfizer Inc .
Since the full ACA rollout will occur over the next several years, managers like Gurvich see the U.S. healthcare sector thriving for the foreseeable future. Not only is it in a growth mode, but it also is a solid, defensive play as the country ages.
There is no glitch in that scenario.