Healthcare: Pockets of Alpha | Investing.com
We recommend a market-weight position in the S&P 500 Health Care sector. It is down 3.8% ytd, the worst among all 11 S&P 500 sectors, and remains one of the clear laggards of the bull market that began in October 2022 (chart).
That underperformance has created selective opportunities. The aggregate sector still lacks a near-term earnings catalyst, carries the second-lowest forward profit margin in the index, and has the weakest 2026 EPS growth outlook of any S&P 500 sector. However, some of the industries within the sector have improving outlooks. Pharma is rerating as GLP-1 economics mature into a durable earnings base, while Biotech is benefiting from M&A activity, patent-cliff pressure, and improving risk appetite.
Health Care has quietly held up month-to-date, eking out a small gain, while the S&P 500 sits modestly in the red and high-beta pockets like the Consumer Discretionary, Communication Services, and Information Technology sectors have all dropped more than 4.5%. The sector also trades at a 17.1 forward P/E, below the S&P 500’s 20.4. We would own the areas where earnings, margins, and catalysts are improving, not the whole index.
Health Care accounts for 8.8% of the S&P 500’s market capitalization, the lowest weight the sector has carried in three decades. The S&P 400 MidCap and S&P 600 SmallCap sectors carry larger weights of 8.9% and 11.5%, respectively (chart). SmallCap Health Care is up 8.7% ytd, and MidCap Health Care is up 4.3%, both well ahead of LargeCap Health Care’s 3.8% decline. Smaller companies have benefited from M&A premiums and are less exposed to the mega-cap pharma and equipment drag.
Health Care’s performance gap is unusually wide. Managed Health Care leads the sector, up 22.1% ytd, while Health Care Equipment is down 23.8% (chart). Managed Care has rallied on a stronger-than-expected 2027 Medicare reimbursement rate, while Equipment has been pressured by litigation overhangs and dilutive acquisitions.
The earnings picture is just as uneven. Health Care Services is up 14.4% ytd, supported by a 2026 EPS growth forecast of 7.2%, nearly triple the sector’s 2.5% forecast (chart). Pharmaceuticals are the exception. The industry’s 4.0% ytd gain rests on only 1.0% expected 2026 EPS growth.
Health Care is in its own earnings cycle. The sector’s 2026 EPS growth forecast of 2.5% is the lowest of any S&P 500 sector and far below the S&P 500’s 24.3% forecast (chart). Prospective growth in 2027 looks better, with expected EPS growth rebounding to 19.2%. The trough reflects Pharma’s compliance reset following 2025’s 32% earnings surge, while litigation continues to drag on Health Care Equipment. Net earnings revisions for 2027 are turning higher.
The sector’s forward profit margin has fallen to 8.2%, the second lowest in the index, down from a peak of 11.5% in February 2022 (chart).
Pharmaceuticals remains our preferred pocket within Health Care. The S&P 500 Pharmaceuticals index is up 4.0% ytd and accounts for 37.6% of the sector’s market capitalization. Its forward profit margin has climbed to 30.1%, near a record high, almost four times the sector average (chart). Pharma trades at an 18.2 forward P/E, below its 18.7% expected 2027 EPS growth rate. That makes it one of the cleaner growth-at-a-reasonable-price opportunities in the sector.
Biotech has recovered, but the recovery has been selective. Equal-weighted XBI and FBT show better breadth than cap-weighted IBB, while speculative ARKG remains far below its 2021 peak (chart).
Biotech’s fundamentals are still mixed. Forward earnings has stalled since peaking at $433 per share in January 2022, while the forward profit margin has compressed from above 40% to 30.1% (chart). Longer term, AI-driven drug discovery could lift R&D productivity, but that upside is not yet visible in reported earnings.
Health Care is no longer a sector to ignore, but it is still not a broad overweight. The index-level numbers remain weak, with slow earnings growth and compressed margins. The opportunity is underneath the surface.