Health insurer stocks seen cheap, but no bargain

NEW YORK (Reuters) - U.S. health insurer stocks appear cheap after a rash of profit warnings unleashed broad bearish sentiment. But even investors who like to capitalize on beaten-down shares fail to see a bargain -- at least not yet.

Industry giant WellPoint Inc (WLP.N) stunned the market earlier this month by cutting its 2008 profit forecast, creating fear the health insurance industry is entering a cyclical downturn. Several rivals followed by reexamining their outlooks or lowering their forecasts.

Investors want to wait at least until the companies report first-quarter results starting next month for assurance that medical cost and premium pricing trends are stable before diving in.

Some are further spooked by the U.S. political climate, worried that as the presidential race heats up it will bring attacks on health insurance companies throughout the year that could increase pressure on the stocks.

All three major U.S. presidential candidates are under pressure to bring down booming health-care costs -- and one target could be reimbursement rates for the companies involving the Medicare government health plan for the elderly.

"We try to buy things that have blown up and we have a more contrarian bent," said Derek Taner, a portfolio manager with the AIM Global Health Care Fund in San Francisco. "But so many other areas are roughed up ... areas with less government risk and good earnings visibility."

"We're not buying, we haven't been buying and we're kind of staying away from that group until we figure out what's happening here," Taner said.

No one doubts that the stocks suddenly look a lot cheaper after a broad sell-off precipitated by the WellPoint announcement and further profit warnings by Humana Inc (HUM.N) and Coventry Health Care Inc (CVH.N).

The S&P Managed Health Care index .GSPHMO, which consists of the six largest health insurers, has fallen 21 percent since March 10. That day, WellPoint, the largest U.S. health insurer by membership, cited high medical costs, weaker enrollment and a worsening economy in cutting its outlook.

Now at about eight times forward earnings estimates, the six largest U.S. health insurers on average trade at half the valuation they did two years ago. They trade at a 31 percent discount to the broader S&P 500.

At the same time, earnings of those health insurers are expected to grow by 5.9 percent in the first quarter and 7.1 percent in the second quarter. S&P 500 earnings are expected to be down 2.7 percent in the first quarter, and up only 0.2 percent in the second quarter, according to Reuters Estimates.

"They certainly look more interesting now," said Maria Mendelsberg, a principal at Cambiar Investors, which has owned Aetna Inc (AET.N), Cigna Corp (CI.N) and Humana in the past but has been out of the group since the fall.

"But I think you've got those two risks: Maybe there's more to come and earnings aren't what they are, and headline risk as you get closer to the election," she said.

Analysts are split over whether the issues companies attribute for cutting their outlooks are specific to them and short-term, or if the gloomier outlooks indicate broad problems.

Coventry blamed higher flu levels for hiking medical costs, and lower U.S. interest rates pressuring investment income, in modestly lowering its forecast. Humana cited high drug costs in one Medicare prescription plan for the elderly, the impact of which it said would only be felt this year.

But some have connected these potentially disparate announcements as evidence that unsustainable competition and higher medical costs have left the companies with little room for error and are threatening profitability.

"My take is it's industry wide," Stifel Nicolaus analyst Thomas Carroll said. "There's zero wiggle room for pricing above medical cost trends, and if there's any hiccup at all it's going to show up."

Setbacks this year have reversed a long run for the group: The S&P Managed Health Care index more than tripled over the five years through 2007, but is down some 38 percent this year.

"The sentiment is clearly negative given all the uncertainty around cost trends," said Tim Nelson, a senior healthcare analyst with First American Funds in Minneapolis. "At these levels, in spite of the attractive valuations, it is dead money for a while."

To be sure, some investors are willing to make bets on the group now.

David Heupel, a portfolio manager for the large cap growth fund with Thrivent Investment Management, said that he took a small position in WellPoint and UnitedHealth Group Inc (UNH.N) after the recent sell-off.

But Heupel said the fund was far from making a significant bet until digesting the companies' first-quarter reports.

"There's just a lot of question marks still about some key areas of business for these companies," Heupel said. "People are going to want to get another reiteration that the sky isn't falling."

(Editing by Carol Bishopric)