Health-care stocks are looking good for 2023 and not just because the sector is a 'safe haven'

Published Wed, Dec 21 20222:01 PM ESTUpdated Thu, Dec 29 202210:05 AM EST

Christina Cheddar Berk @in/christina-cheddar-berk-b864404/

Investors looking for cover this year would have done well if they sought a safe haven in large-cap pharmaceutical stocks, a trend that is likely to continue into 2023. The NYSE Arca Pharmaceutical Index has gained 3.8% year to date as of Tuesday's close, compared with a 19.8% drop in the S & P 500 Index over the same period. However, the rising interest rate environment and a desire to avoid risky bets has made for a tough year for small- and mid-cap biotech stocks. But the outlook for the group could improve next year as new drug launches, product approvals and a return of merger and acquisition activity drive up the value of the stocks, some investors believe. Although the Nasdaq Biotech Index is down 10.9% year to date, it has climbed 7.6% over the past three months as of Tuesday's close. That gain topped the three-month performance of the Russell 2000 (down 3.7%), S & P 500 (down 2.1%) and the Nasdaq (up 1.5%). Large-cap pharmaceutical stocks have benefited from widespread concerns about an economic downturn. The thought is that even in a recession, consumers will still need to seek out health services. That sentiment will continue to propel the group at least until the first half of 2023. There also are other catalysts for pharma stocks, such as expected drug launches and new products from this year's M & A as well as easing pressures from foreign exchange. Investors are very focused on advancements in Alzheimer's disease treatment, new weight loss medications and developments in gene editing. The Inflation Reduction Act provided some clarity around drug pricing that should help health-care stocks. With a divided Congress, there is less risk of new legislation upending current rules. Passed in August, the Inflation Reduction Act caps price increases for drugs under Medicare to the rate of inflation and provides rebates to patients once they hit catastrophic coverage levels. But the focus will be on how companies position themselves strategically, as the law also imposes discounts on drugs after the therapies have been in the market for nine years for small-molecule drugs or 13 years for biologics. A top performer with room to run On Tuesday, Barclays named Merck one of its top picks in the sector. Shares are up 43% year to date, but Barclays' $128 price target implies nearly 17% further upside from Tuesday's closing price. On average, analysts have a $113.86 price target for the stock, according to FactSet. "Looking to 2023, we see a dynamic year in which we expect the company will be able to post some wins across the Keytruda [late-cycle management] effort, meaningful progress in advancing the [cardiovascular] franchise, and continued operational excellence with Keytruda/Gardasil drivers intact and moderated [foreign exchange] headwinds (after $2bn in '22)," Barclays analyst Carter Gould wrote in a research note.