Hedge funds have been on a shopping spree in the beaten-down health care sector lately as they sell off holdings of information technology stocks. Health care stocks, hampered by increased regulatory risks earlier in the year, now comprise the largest net exposure for hedge funds and their largest net overweight position compared to the Russell 3000. Meanwhile, the info tech sector is losing favor with hedge funds, becoming the most underweight sector amid increasing U.S.–China trade-war risks, according to Goldman Sachs.
“Funds took the policy-driven decline of health care stocks in 1H as an opportunity to lift the sector to the largest net overweight vs. the Russell 3000,” wrote Goldman’s analysts in a recent Hedge Fund Trend Monitor report. “Funds trimmed positions in semiconductors and other stocks exposed to U.S.-China trade conflict.”
Pharmaceutical company Allergan PLC (AGN), health insurers UnitedHealth Group Inc. (UNH), Centene Corp. (CNC) and Humana Inc. (HUM), and managed health-care services company WellCare Health Plans Inc. (WCG) are among 50 stocks that appear on Goldman’s Hedge Fund VIP list. These “stocks that matter most” are are those that appear most frequently in the top ten holdings of hedge fund portfolios. Allergan, Centene, Humana, and WellCare were all new additions to that list.
What It Means for Investors
Following the market rout at the end of 2018, health care stocks rebounded early in the year along with the rest of the market, but after hitting a rough patch as policy ideas such as “Medicare for All” gathered momentum, they have since failed to keep pace. But ignoring the heightened regulatory risk that has held the sector back, hedge funds saw the depressed stock prices as a buying opportunity. Health care stocks were trading at a 10% forward price-to-earnings (P/E) discount relative to the S&P 500 as of the middle of last week.
Hedge funds’ net exposure to the sector currently sits at around 18%, making it their largest exposure among all sectors. At 442 bps above that of the Russell 3000’s weighting, health care has become the largest overweight position in hedge fund portfolios, above both consumer discretionary (+355 bps) and communication services (+232 bps). While hedge funds have been overweight health care since early 2015, their current tilt relative to the Russell 3000 is near a 10-year high.
Meanwhile, hedge funds have been cutting their exposure to tech, which is now their most underweight sector compared to the Russell 3000's weightings. While tech is still the second-largest next exposure in hedge fund portfolios, at around 16.3%, that exposure is 442 bps below that of the Russell 3000, more underweight than financials (-426 bps) and consumer staples (-391 bps). Hedge funds have been underweight tech since at least 2010, but after increasing exposure to the sector between 2014 and 2017, they have been retreating.
“Elevated valuations and the escalating U.S.-China trade conflict have driven hedge funds away from the tech sector since 2017,” wrote Goldman’s analysts. “In particular, funds have steadily reduced the share of market cap owned among the stocks most exposed to US-China trade conflict, such as semiconductors.”
While hedge funds have held an overweight position in health care stocks for the past four years and have been underweight tech stocks for even longer, that bet has failed to pay off. The tech sector has handily outperformed health care over the past five years. But if trade-war tensions continue to escalate, making the headwinds facing the tech sector greater than the regulatory headwinds facing health care, then those bets may finally start paying off.