Introduction

For many years now, investing in healthcare related stocks has presented me with a conundrum of sorts. Demographic forces, primarily the graying of America (and the world for that matter), suggests powerful future growth potential and demand for healthcare related products and services. On the other hand, healthcare and its costs have long been a political hotbed.

Consequently, my conundrum has been deciding whether to even invest in healthcare stocks or not. Healthcare is clearly an industry that promises enormous growth potential, but, healthcare is also an industry that possesses enormous political risks as well. Not to mention, of course, the perceived Amazon threat.

Over the past couple of decades healthcare related stocks have gone in and out of investor favor numerous times. Ironically, for many companies in this sector, fundamental results and growth have been stellar in spite of the political risks. Their stock prices on the other hand have also gone in and out of favor many times.

For example, as early as 2 or 3 years ago, best-of-breed drug retailers were being awarded with lavish valuations by Mr. Market (I will provide a clear illustration of this in the video). Even more ironically yet, even the worst performing company, Rite Aid Corporation (RAD) also commanded a high valuation.

However, starting in July of 2015 investment sentiment towards drug retail stocks turned very dark – very quickly. Since that time (July 2015) premier drug retailers have lost approximately 30% to 40% of their value based on stock price. Ironically, these precipitous drops in stock price have occurred at exactly the same time that premier drug retailers such as Walgreens (WBA) or CVS (CVS) were growing earnings by 15% to 20%. This is an obvious disconnect between fundamental results and price action. Prices have fallen precipitously while earnings and dividends have grown at double-digit rates – why?

The answer seems simple and straightforward, and can be articulated in two ways. Number one, this type of disconnect between price and value clearly indicates (to me at least) that valuation must have been out of alignment with fundamental value in the summer of 2015. In other words, the market was either wrong then or it’s wrong now. Number two, something had to cause investor sentiment towards drug retailers to quickly turn from euphoric to despondent.