Health Stock Funds: Right Prescription in a Recession?

For 2008, health funds have ranked as the top-performing equity category of mutual funds tracked by Morningstar. That may provide some comfort to investors who own health stocks for their defensive qualities -- stocks that can hold up during downturns. But compared to their showings in previous bear markets, health funds have proved disappointing lately.

During the first 11 months of 2008, the average health fund lost 28.6%, outpacing the S&P 500 by about 9 percentage points, according to Morningstar. In contrast, health funds stayed in the black during the down year of 1990, gaining 17.0%, more than 20 percentage points better than the S&P. For the difficult three-year period that began in 2000, health funds returned 0.5% annually, 15 percentage points ahead of the S&P.

The recent weaker showing of the funds may be partly caused by the changing nature of the health sector. In the past, insurance paid a big chunk of health costs, so consumers continued using drugs and scheduling elective surgeries even during times of economic recessions. But lately consumers have been forced to foot a bigger share of their bills as copayments and insurance premiums have risen. As a result, patients have been cutting back as the economy worsens. "During this recession, we are seeing a reduction in the amount of drugs used and the number of trips to physicians' offices," says Ann Gallo, portfolio manager of Hartford Global Health (HGHAX).

Not all sectors of the health category have suffered equally this year. Some biotechnology shares have remained in the black, continuing to report solid sales of vital drugs. Boasting strong balance sheets, major pharmaceutical stocks dropped 20% or less. At the same time, shares of hospital suppliers lost more than 20%. Health insurers saw their stocks cut in half as investors fled all kinds of financial businesses.

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