• Relative pullback in healthcare sector to levels historically consistent with subsequent outperformance.
  • Punished small and mid-caps trade at historically low multiples; an easing of financial conditions should be a catalyst for a rerating.
  • Significant sector ETF outflows historically a strong contrarian buy signal for active investors.


We believe a blend of supportive market and economic dynamics have set the stage for the healthcare sector to outperform over at least the next 12 months, with attractive opportunities across the market cap spectrum. While the sector has lagged the market this year due to stronger than expected economic growth, particularly in the US, we think growth is now slowing and we are entering the contraction phase of the economic cycle. On an historical basis, it is this environment in which healthcare tends to outperform the broader market, including periods of absolute positive performance and relative downside positivity.

Here are three signals pointing to potential healthcare outperformance that the market is currently offering, and which we are following closely.

  • Sector Pullback
  • Price-to-sales ratios
  • ETF flows

Source: Polar Capital, Bloomberg as at 31 October 2023.

Year-to-date sector pullback puts 4Q23 in line with historically rewarding times to buy healthcare

First, the performance of large and mega-cap healthcare stocks over the past 30 years has been strong on both an absolute and relative basis. Looking specifically at relative performance over the past 34 years, there have been six instances of a pullback to the broader rising trendline, which have subsequently led to significant outperformance for the sector. The most recent pullback over the year-to-date marks the seventh occurrence, suggesting the sector could outperform the broader market if it conforms to historical precedent.


Source: Factset; FTSE Russell and Jefferies, 31 October 2023. Note: Universe is excluding no-sales companies All opinions and estimates constitute the best judgment of Polar Capital as of the date hereof, but are subject to change without notice, and do not necessarily represent the views of Polar Capital. Some information contained herein has been obtained from third party sources and has not been independently verified by Polar Capital. Neither Polar Capital nor any other party involved makes any express or implied warranties or representations. *Russell Healthcare 2000 Index P/S to Russell 2000 Index P/S.

Small and mid-cap absolute and relative price-to-sales (P/S) ratios have pulled back to historic lows

Second, small and mid-cap healthcare stocks have underperformed their large and mega-cap peers by c55% over the past three years, currently offering a stark and, in our view, very attractive risk-reward balance.

While some small and mid-cap healthcare subsectors rose to stratospheric levels during the Covid bubble, this peaked at the end of the first quarter of 2021. The valuation expansion phase, which started in 2020, has since been completely wiped out by weakness since the peak, driven by financial tightening. The relevant stocks now trade at multiples which, historically, have signaled a low prior to outperformance. Investors inclined to believe interest rates have peaked, leading to easing financial conditions, may see the turning point as a trigger for a rebound among those hit hardest by monetary tightening.


Source: Strategas Securities, November 2023.

Negative ETF flows a positive indicator

Last, we find ETF flows in healthcare an extremely useful barometer of sentiment and believe they are a powerful timing tool for investing in the sector. When inflows are strong, these reflect more bullish sentiment and we therefore interpret this as a signal to be more cautious when at extremes. When flows are very negative, sentiment is typically very bearish and thus supportive of buying the sector. Looking at the current set-up against the prior 10 years, recent ETF outflows are very negative and supportive of buying the sector now, in our view.

Sector fundamentals are in rude health

In terms of fundamentals, healthcare utilisation is strong which we expect to continue for the foreseeable future. The pandemic prompted a slowdown in procedure volumes and a significant build-up in backlogs in healthcare systems around the world. However, we are now seeing utilisation returning to trend and backlogs slowly coming down, bringing with them a strong growth outlook which is constructive for the sector. New product cycles are a key driver of stock performance for pharmaceutical, biotechnology and medtech companies and we are seeing a series of product launches that are generating excitement, with the obvious ones being new drugs for obesity and Alzheimer’s. Healthcare is also the most fragmented industry, and therefore we see huge scope for consolidation over time as companies look to become more efficient. We see a particular opportunity for large and mega-caps to acquire small and mid-size pharmaceutical and biotechnology companies due to the need for new products, as we approach a potentially challenging period in the second half of the decade with a number of products set to lose patent protection.

We remain extremely constructive on the healthcare sector over the long term and are particularly buoyed by near-term market dynamics which, in our view, present a compelling case for investing in healthcare now.