Why Health Care ETFs Aren't Panicking Over Big Pharma's Price Cuts
As big pharmaceutical companies are set to finalize a deal with the U.S. government to bring down prices for some prescription drugs, another old question is coming into focus for investors: how much damage can Washington really do to Big Pharma’s bottom line?
The answer for ETF investors may be far less alarming than the political noise suggests.
Medicaid Math Cools The Fear Factor
The current generation of deals, which is likely to involve AbbVie (NYSE:ABBV), Merck & Co Inc (NYSE:MRK), Bristol-Myers Squibb Co (NYSE:BMY), and Gilead Sciences Inc (NYSE:GILD), is focused on Medicaid prices. The difference this time is important.
The Medicaid program currently represents around 10% of all prescription drug spend in the U.S., and it enjoys very dramatic discounts, frequently above 80% off list prices. While Pfizer Inc (NYSE:PFE) has predicted a tough year due to compression of prices and margins, most analysts see no big problem appearing here.
This has eased market fluctuations that arose initially out of concern over the renewed effort by the Trump administration to close the gap that exists between the prices of medications in the U.S. and other developed nations.
Also Read: 12 Health Care Stocks Moving In Friday’s Intraday Session
Large Health Care Sector ETFs Cushion The Blows
Diversified health care ETFs seem especially robust against the headlines. The Health Care Select Sector SPDR Fund (NYSE:XLV), and the Vanguard Health Care ETF (NYSE:VHT), allocate money across the pharmaceutical, biotechs, medical products, diagnostics and health care delivery sectors. This means large pharmaceutical companies play a big role, but not a decisive one. Both funds are up more than 1% on Friday.
Managed care companies, device makers and health care technology firms, which face little direct exposure to Medicaid drug pricing, help offset any pressure on pharmaceutical holdings. That diversification acts as a built-in shock absorber when policy risk flares up.
Pharma-Specific ETFs Receive Increasing Noise
More specialized funds, such as the iShares U.S. Pharmaceuticals ETF (NYSE:IHE) and the SPDR S&P Pharmaceuticals ETF (NYSE:XPH) ETFs, are actually right in the middle of it all. These ETFs are heavily weighted toward those companies that are currently working with the government over prices, may therefore be impacted by margin-related news.
Even so, ETF structure still offers protection. Exposure is spread across dozens of companies rather than a single name, reducing the risk of a sharp drawdown tied to any one deal or earnings warning. In fact, both IHE and XPH are up 1.3% and 2%, respectively, on Friday, at the time of publishing.
The ETF Takeaway
For investors, drug pricing pressure looks more like a volatility story than a fundamental break. Broad health care ETFs appear positioned to weather the noise, while pharma-focused funds may see bumps along the way — but not the cliff some fear. Once again, diversification may be the market's best prescription.
Read next: