Short term pain, long term gain

In a year when more than eight billion doses of the vaccines for COVID-19 were administered, it is not hugely surprising to see Moderna, one of the companies behind this triumph of human ingenuity, listed as one the best performing stocks in the world in 2021¹.

What is perhaps more telling, however, is that that list is topped, not by a vaccine or healthcare provider in this most health-conscious of years, but by a company which sells computer games and reported a net loss of $61m in the last quarter of its financial year².

Markets continue to be irrational, then, and the reaction of markets to the emergence of the Omicron variant in recent weeks is as good an example of this irrational nature as any.

Healthcare stocks, like pretty much all others – barring Tesla of course, because electric cars are a must even in Armageddon – took a big hit in November as juicy news of the ‘super-mutant’ strain began to push news of cheese and wine at Downing Street off the front page.

Yet despite the usual howls of terror in the media which have accompanied the growing prevalence of the new variant, BB Healthcare’s (BBH) managers, Paul Major and Brett Darke, think the chaos created by Omicron has created an opportunity for investors who are brave enough to see past the noise.

“March 2020 will be one of those periods that we will forever remember; an epoch-defining event. For obvious reasons, this was also the worst month in the trust’s history in terms of relative and absolute performance: the trust’s Net Asset Value declined 10.8% in sterling terms versus a 1.1% decline for the MSCI World Healthcare benchmark.

“With regard to the current situation around Omicron it is surely evident to even the most casual observer that the situation before us today is incomparable to that of March 2020 in terms of the risk to society.” said Paul. “Nonetheless, we find ourselves staring at a bizarrely similar situation in terms of the portfolio: during November 2021, the Trust’s NAV declined 7.5% to 184.91p, underperforming the MSCI World Healthcare Index by 6.9%.”.

Paul and Brett have moved quickly to make the most of depressed valuations in the sectors they hold. “This is undoubtedly a great opportunity for longer-term investors,” said Paul, “and we have been active on the deployment side, with one new company being added to the portfolio in Focused Therapeutics. This aside, we have added to 10 of our 30 previously held positions and reduced exposure to 16, with five unchanged.”

Paul says a snap market recovery, which could occur if the data ultimately supports the theory that Omicron cannot evade vaccines effectively, or if its apparent transmissibility advantage comes with a reduction in morbidity risk. We should know the answer shortly. Thus far, the totality of the data on Omicron since it became established in South Africa and the UK supports the idea that it results in a lower morbidity burden versus the Delta wave of mid-2021, although we cannot know if this is because the virus has changed or because so many now have protection from vaccination or prior COVID exposure. Does it really matter why? What matters is whether or not society is facing another huge wave of morbidity and mortality.

If this turns out to be the likely scenario, then it would be a positive for healthcare stocks, and markets generally, but it is far from a dead-cert. Smaller companies and riskier sectors – like healthcare – have already been hit harder than most by the risk-off trade which has accompanied Omicron and more likely is that short term pain will intensify, creating more opportunities for those with an eye on the long term.

“The realities of liquidity and risk appetite suggest things will get worse before they get better. We’ve already seen the state of New York declare a public health emergency and things like this will weigh on broader sentiment, linked as they are to the elective procedure volumes that account for the majority of global healthcare consumption, though vaccine and testing stocks may continue to do well in the short to medium term.”

“For us this is a question of when to accelerate capital deployment and leverage, and by how much. There is no reason to think we are headed into another March 2020 situation in terms of illness from COVID.”

“As terrible as the height of the first wave of COVID was for the world, it was also a tremendous opportunity for investors and there is no reason not to follow the same playbook again if another market rout is in evidence.”

BB Healthcare is a UK listed investment trust which aims to provide shareholders with capital growth and income over the long term, through investment in listed or quoted global healthcare companies. The trust has delivered annualised NAV total returns of 22.8% over five years to the end of 2021.

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1 – Source: Investopedia, https://www.investopedia.com/top-stocks-of-2021-5212219

2 – Source: Gamestop report and accounts https://www.globenewswire.com/news-release/2021/09/08/2293815/0/en/GameStop-Reports-Financial-Results-for-Q2-2021.html