What are the long-term prospects for healthcare investing post Covid-19?

The Covid-19 crisis has hurt most economic sectors this year. As of 30 June, healthcare was one of only three sectors to post positive year-to-date returns (1.3% compared to -5.8% for the MSCI World index). Some healthcare companies have seen activity fall amid cancelled surgical procedures and non-essential appointments. However, companies making the equipment used to treat Covid-19 patients have seen orders rise sharply.

Testing and diagnostics specialists have also seen hugely increased demand for Covid-19 testing that offset the decline in tests for other illnesses. Numerous tests have been developed for the virus, while there are also antibody tests to detect whether someone previously had the virus.

Meanwhile, hopes for a return to “normal” are ultimately pinned on finding a vaccine or treatment. There are over 100 potential vaccines in development and existing treatments for other conditions are being trialled to see if they may be effective against the virus.

All of the above points to an enormous amount of resource being dedicated to combatting Covid-19, with many healthcare companies benefiting through higher orders, sales, and investment.     

But if a vaccine is found, then what happens? Could the current period of growth come to a sharp halt? The areas of focus might change, but there are reasons to think that - even prior to Covid-19 - the sector was on the cusp of a period of rising demand, innovation and potentially higher growth.

Importance of being prepared

A year ago, Keith Wade, Schroders Chief Economist and Strategist, identified changing demographics and the consequent need for increased health spending as one of his “inescapable truths” – trends that will shape the investment landscape in the coming decade. In his view, the Covid-19 pandemic has “super-charged” this theme.

Keith says “we would expect spending on health to rise as governments build more resilience into their health systems. Just as the banking sector had to increase buffers against risk after the global financial crisis, the health sector will be expected to do the same after the pandemic.”

The crisis has put a spotlight on countries whose health services have appeared ill-prepared. Difficulties sourcing appropriate ventilators, or sufficient quantities of tests, have been high-profile news. A sustained higher level of health spending is therefore something that a number of Schroders fund managers expect as well.

European equities fund manager Paul Griffin says “Even once the worst of the current crisis has passed, we think demand is likely to remain robust. The pandemic has focused attention on the importance of being prepared. As such, we would expect that companies producing life-saving equipment and drugs will continue to see elevated demand relative to the pre-crisis period.”

Paul also highlights biologics as a “fast-growing niche” in the healthcare sector. Biologic drugs range from simple proteins to complex antibodies manufactured in living organisms. Such drugs have been around for the past decade but are of increasing importance in offering safe, innovative medicines with higher success rates. Biotech companies increasingly outsource biologic development and manufacturing to specialist companies. Paul says “many of these ’pick and shovel’ companies are enjoying strong growth in the biologics market.”

Three factors supporting the sector

Global equities fund manager John Bowler concurs that healthcare will persist as a key investment theme beyond the Covid-19 crisis. He sees three forces that could make healthcare a sustainable growth area for many years to come: demographics, efficiency, and technology.

1. Demographics

The demographic challenge is clear across developed countries. The leading edge of the baby boomer population is hitting 75. This is the age when more complex procedures like hip replacements occur, driving an acceleration in healthcare demand.

2. Efficiency

John says “The financial burden to national budgets and employer-sponsored health insurance is creating the necessary force for change. For example, in the US between 30% and 40% of healthcare spending is regarded as wasted, which creates a tremendous opportunity to drive efficiency.”

Pressure on government budgets due to the Covid-19 economic crisis reinforces the importance of this theme. Keith Wade says “Healthcare spending already accounts for nearly one-fifth of OECD public expenditure. This will present a challenge to finance ministries at a time when the International Monetary Fund forecasts that total government debt will rise to 150% of GDP for the G20 by the end of 2021, largely as a result of Covid-19.”

And it’s not just governments who are looking to get more for their money, as Schroder Adveq’s Jeremy Knox says: “Pharmaceutical companies are looking to the next frontiers of medicine, all the while seeking to be more efficient in drug development to maximise returns on new therapies. This search for efficiency has led to a robust market for outsourced service providers. These form an integral part of the value chain for drug development.”

3. Technology

John Bowler says “The outbreak of Covid-19 has clearly demonstrated how important technology is for the healthcare sector. In particular, telehealth, which refers to the distribution of healthcare-related services via electronic devices such as mobile phones and laptops, offers significant potential for growth.”

And technology has more to offer than time-saving Zoom consultations with your GP, as John explains, “There is a steady stream of novel and disruptive technologies in both medicines and technology/data that are providing new approaches to managing diseases.”

Wave of innovation in the sector

Can technology help with the hunt for a Covid-19 vaccine? The use of Artificial Intelligence (AI) suggests it can.

The speed and volume of scientific research and data being generated daily is impossible for an individual to manage but AI, machine learning models and algorithms can help scientists make sense of it. Various companies are trying to harness this data deluge. In the UK, one innovative tech company used its AI capabilities to search through existing drugs that could potentially be used to treat the novel coronavirus. It found one potential candidate and this led to a clinical trial with US pharmaceutical giant Eli Lilly.

Tim Creed, Head of European Private Equity at Schroders, says, “Various companies have used AI to identify potential treatments before. However, this is a very high profile instance of AI helping with drug discovery and development. It also shows how a relatively small company with innovative technology can partner with a pharmaceutical giant. Whether Covid-19 is cured quickly or takes a long time, this proves how AI can work in the industry.”

There are other examples of how innovative UK companies have used their capabilities in new ways during the current crisis. For example, given the pressures on the UK’s National Health Service (NHS), some private companies stepped in to help. Tim says “one example is a company that provides cancer treatments including advance proton beam therapy. As a result of the NHS’s focus on Covid-19, some other treatments have had to be deferred or delayed. This company stepped in to support the NHS and take on additional cancer patients. We think this is a great thing for the company’s relationship with the NHS in the long term.”

And innovation in developing new treatments also creates additional demand. John says “There has been a dramatic increase in research & development spending in the last decade. This in itself is creating new markets in healthcare. This can be seen by a number of new, innovative drugs in areas such as oncology and gene therapy that are at the point of commercialisation."

Unmet healthcare needs in emerging markets

Expectations of increased healthcare demand aren’t solely about ageing populations or high-tech innovation. The sector is already seeing growth as a result of the burgeoning middle class in emerging markets and ongoing trend towards urbanisation, according to Jeremy Knox: “We think the global medical devices and equipment industry will grow substantially in the next decade. We expect this to be driven primarily by Asia, as its economies evolve and consumers begin to access healthcare for the first time.”

In many emerging markets, greater access to healthcare, and improvements to that care, are a source of long-term growth potential. Urbanisation can help expand access, with the possibility of a “leapfrogging effect” that sees emerging markets overtake developed markets in some healthcare areas. Possibilities include linking up technology with healthcare provision in the form of online pharmacies, for example.

Combination of factors to support growth in sector

This suggests that quite apart from Covid-19, there are a number of dynamics that could support ongoing growth and activity in the healthcare space. Demographic change and the need to make health services more resilient to future crises will drive sustained growing demand for healthcare services. Budget pressures make investing in efficiency enhancing  technology a necessity not an option. The possibilities opened up by new technology are vast, from new treatments to new methods of accessing healthcare. And then there are the new markets opening up as growth in emerging market economies enables more people to access healthcare services.

Such ongoing demand could potentially see some companies achieve consistently higher growth in future. This may make them attractive to investors seeking higher returns. As ever, selecting the right companies to invest in will be crucial. Paul Griffin says “These businesses are not simply defensive places to hide during a crisis; they offer opportunities for long-term growth.”