The rollout of the Affordable Care Act -- Obamacare -- may be bumpy. But the markets seem convinced that millions of newly insured patients will soon be visiting hospitals and purchasing prescriptions. During the past year, Health Care Select Sector SPDR (XLV) returned 38.3%, topping the S&P 500 by more than 15 percentage points.
In the years leading up to the start of Obamacare, pharmaceutical stocks slowed as investors worried that new regulations and taxes would harm profits. But now new revenues promise to offset the additional costs. During the past year, SPDR S&P Pharmaceuticals (XPH) returned 60.6%.
Buoyed by some high-profile drug approvals, biotechnology ETFs soared. For the year, iShares Nasdaq Biotechnology (IBB) returned 74.1%.
There was less excitement for medical insurers and devices, as iShares US Healthcare Providers (IHF) returned 32.2% and iShares US Medical Devices (IHI) returned 34.0%.
Besides Obamacare, other factors have been boosting health stocks. During the financial crisis, the growth of health revenues slowed as patients postponed elective procedures. Now that the economy is growing, waiting rooms are filling again. In addition, innovative approaches in genome research and biotechnology are resulting in a wave of new drugs that could produce increasing sales.
To help breakthrough products reach the markets, the U.S. Food and Drug Administration has begun speeding up its approval process. With more applications put on the fast track, the FDA approved 39 drugs in 2012, up from an average annual figure of 23 during the preceding decade.
The fast-track process has been a great help for young biotechnology companies that are struggling to survive, says Todd Rosenbluth, director of ETF & mutual fund research for S&P Capital IQ. "Time is of the essence for companies that don't have a big product line," he says. Rosenbluth recommends three broad health ETFs that track each other closely: Health Care Select Sector SPDR, Vanguard Health Care (VHT), and iShares U.S. Healthcare (IYH). All the funds have the same top eight holdings. Big positions include Johnson & Johnson (JNJ), Pfizer (PFE) and Merck (MRK). The SPDR fund, which owns all the health stocks in the S&P 500, focuses on large blue chips. The Vanguard and iShares portfolios are a bit broader and include more small caps. Because small stocks shined in 2013, the Vanguard fund outdid SPDR by 2 percentage points for the year.