Which Health Care ETF should I buy?
There are two streams when looking into the Health Care investment space. The first is which field of health care you’re looking to invest in and the second, is where in the world, geographically, you invest. As it turns out, while there are many ETFs to choose from, these streams can’t cross in the ETF world. We’ll look at the best Health Care ETFs available when taking each approach.
ETFs reflect an index such as the 200 largest companies on the ASX, known as the ASX200; there’s an ETF to buy exposure to these 200 companies in one transaction. Creating and managing indices is a process in itself, let alone adding the ETF regulation and management issues. As a result, while there are many more markets and ETFs available than just those on the ASX and NYSE, there aren’t many sub-sectors of Health Care which cover global markets. Sub-sectors are for example, biotech and medical equipment through to medical software.
While it’s not possible to gain exposure to these sub-sectors across the world through just one ETF, once we accept that narrowing down to these sub-sectors can really only be done within regions, we can invest for example, in US medical equipment or US biotechnology.
In 2019, it would seem that the options for Health Care ETFs are only: ASX-focused; globally-focused and country-focused sub-sectors (eg. NYSE Health Care Equipment providers).
For Australians investing in Health Care in December 2019, here are my thoughts; assuming we jump past buying shares in individual Health Care companies such as CSL or Cochlear (COH) and go straight to the ETFs.
The questions Australian investors need to address are:
1. To hedge or not to hedge?
Do we want the exposure to be pure Health Care without currency fluctuations, or are we trying to capture the currency movements too?
If the focus is to get the movement of the industry and benefit from the ageing population across the globe, then a hedged approach seems to fit the bill. On that note, we have BetaShares Global Health Care ETF – Currency Hedged (DRUG.ASX).
Management Costs: 0.57% (included hedging costs)
Dividend Yield: 3.16%
Alternatively we could pick any of the international ETFs that we’ll look at later, and run a hedge alongside that investment. However, most professional fund managers advise against this movement for two reasons:
Firstly, hedging costs money, and it often goes straight to an investment bank’s bottom line; you’d rather it be in your back pocket rather than theirs.
Secondly, being open to currency movements acts like a shock absorber in the portfolio. When the Australian market is tanking, the AUD is probably going the same way, being unhedged helps soften the blow to the overall portfolio. On the flip side, when the market rises, the rest of the AU-based portfolio picks up the losses of the hedging, just like a shock absorber on your car.
2. US-domiciled or not?
Once we step out beyond the ASX we open ourselves up to international regulations such as the USA’s W8-BEN forms, potential inheritance taxes and other issues that should be considered before investing.
Taking a broad-brushed approach but US-domiciled, here are three of the best options:
Management Costs: 0.13%
Dividend Yield: 1.51%
The Health Care Select Sector SPDR Fund (XLV) ETF that is slightly different from the IXJ. XLV focuses on the Mega-caps. It holds the S&P 500’s Health Care with a strong concentration of the top 10 holdings comprising about 50% of the fund.
Management Costs: 0.1%
Dividend Yield: 1.89%
Vanguard Health Care Index Fund ETF Shares (VHT) is more diversified than XLV with a broader investment universe covering pharmaceuticals, biotech, medical equipment, software and IT companies in the top 98% of total US stock market capitalisation. However, the concentration is still relatively high with the top 10 holdings making up about 40% of the approximate 370 total holdings in the ETF.
Management Costs: 0.4%
Dividend Yield: 0.55%
Reducing the concentration risk of the broad-brushed approach can be achieved through Invesco S&P 500 Equal Weight Health Care ETF (RYH). RYH offers a more balanced exposure to the whole sector without the concentration risk spread across approximately 60 shares within the S&P 500 index.
3. Which thematic?
The above options use a broad-brush approach however taking a thematic approach breaks the sub-sectors down into these groups:
a. Global ageing population:
The iShares Global Healthcare ETF (IXJ.ASX) tracks an index that captures 1,200 Global Healthcare leaders through the S&P Global 1200 Healthcare Sector Index.
Management Costs: 0.47%
Dividend Yield: 1.56%
1,200 shares is a diversified approach in anyone’s book and should provide adequate exposure to the global thematic of the ageing population.
There are other ETF providers with their own broad-brush Health Care ETFs. Each have their own merits which investors can sift through to pick their favourite. However, some of the largest institutions and asset consultants take a different approach; they know it’s near impossible to pick the differences between such similar ETFs, so they will buy a group, or all of them, and diversify their selection risk while maintaining the desired sector exposure. Individual investors might not have the capital to spread that widely, although they can take comfort in the fact that even professional investors will resign to not splitting these minor differences between similar ETFs.
b. Equipment Specific:
Health Care is often at the cutting edge of innovation and technology. From an industrial perspective this can be appealing to some investors, although the uncertainty of research and trials from the bio-technology side can deter some investors weary of bio-tech volatility. If the industrial and equipment side of Health Care is the desired exposure, then looking at SPDR S&P Health Care Equipment ETF (XHE.US) might be the focus.
XHE focuses on Health Care Equipment and Health Care supplies through an equal weighted index over large, mid and small cap shares – on the US market only.
Management Costs: 0.35%
Dividend Yield: 0.1.%
c. Bio-technology Focused:
The more volatile side of Health Care is often driven by bio-technology companies, or Biotechs. The large returns in this segment are often provided by the smaller companies achieving milestones in trials or being granted regulatory approvals. Overnight returns that double and triple are all within the realms of these companies and by definition these are considered riskier investments.
One ETF that spreads the risk in this space more evenly, is SPDR S&P Biotech ETF (XBI) that places an equal weight approach which links performance more closely with the small-cap companies. It’s worth noting that volatility is notably higher than the others previously mentioned.
Name: SPDR S&P Biotech ETF
Management Costs: 0.35%
Dividend Yield: 0.02%
d. Fundamental Quality Filtered:
Within the Health Care universe there can be the more stable, reliable companies, and those with higher risk. First Trust Health Care AlphaDEX Fund applies a fundamental, or ‘quality’ filter over the US Health Care sector before adding shares.
Management: Costs: 0.62%
Dividend Yield: 0.00%
e. Health Care Services Providers:
Taking a more concentrated approach to the industrial side of Health Care companies takes investors to the iShares U.S. Healthcare Providers ETF (IHF). IHF moves away from the research side and focuses on the businesses servicing the patients and sector. Some constituents provide services ranging from insurances, pharmacies stores and pharmacy vending machines through to yoga classes and testing laboratories. These companies tend to have more consistent earnings cycles and narrower forecasts of future targets which makes their profile more aligned to standard industrial companies as opposed to biotech companies. This is partly reflected in the yield comparison.
Management Costs: 0.43%
Dividend Yield: 3.62%
For Australians investing in Health Care ETFs, identifying a specific focus is a critical decision which will dramatically impact the exposure and long term outcome of the investment. These three questions will help investors narrow down their investment field to the most suitable Health Care ETF available for them. Get in contact with an Adviser if you have more questions about Health Care ETFs.