Publish date:

Democrats' Health Care Conundrum

They're in for a fight over initiating price controls for the new Medicare prescription-drug plan.

This column was originally published on Street Insight on Nov. 20 at 2:25 p.m. ET. It's being republished as a bonus for TheStreet.com and RealMoney.com readers. For more information about subscribing to Street Insight, please click here.

After spending the past few business days at the Credit Suisse Health Care conference in Arizona, I came to a couple of conclusions: First, many dedicated health care investors are not having the time of their lives, and second, the Democrats will be in for quite a fight trying to initiate price controls for the new Medicare prescription-drug plan.

Two of the keynote speakers at the conference, Bush administration heavy hitters Mark McClellan (formerly of the Food & Drug Administration and the Centers for Medicare and Medicaid Services) and Michael Azar II (deputy secretary for the U.S. Department of Health and Human Services), dedicated much of their respective speeches to heralding the progress being made in using economic incentives to control the cost of Medicare and Medicaid programs.

They both flatly rejected any notion that the Democrats' plan to negotiate directly with pharmaceutical companies would end up saving money.

Explicit Prohibition

As background, recall that the new Medicare drug plan, a.k.a. Medicare Part D, was designed so that private companies -- e.g., the pharmacy-benefit managers such as

Caremark

(CMX)

,

Express Scripts

(ESRX)

and

Medco Health Solutions

(MHS)

-- would negotiate prices for drugs directly with the pharmaceutical companies.

The government was explicitly prohibited from negotiating with the companies for two reasons:

    The negotiations would quickly turn into mandates and price controls. The government has an awful track record with such things.

Indeed, comments by McLellan and Azar have been seconded by many in the industry. The bottom line is that the U.S. -- one of the few countries that doesn't institute price controls on health care -- has led the world in health care innovation. That's no coincidence, says the administration, and I must fully agree.

The U.S. outspends Europe by almost a four-to-one margin on biotech research, and U.S. biotech companies employ about six times as many people as their European counterparts. That's just biotech companies; the old-line pharmaceutical companies are a major employer in the U.S.

I believe the Democrats would do well to remember these statistics, although it's become clear to me that the they will not likely have the power to override an almost-certain presidential veto if, indeed, they are successful in passing any legislation that includes changes in Medicare Part D or the re-importation of prescription drugs.

Rebound in Big Pharma

The growing realization that the Democrats are in for a tough fight is probably the primary reason

Pfizer

(PFE) - Get Report

,

Merck

(MRK) - Get Report

TST Recommends

,

Wyeth

(WYE)

,

Schering-Plough

(SGP)

and others have rebounded from their post-election swoons.

Now that these names have regained some of their losses, investors are turning to individual company fundamentals. That differs greatly from stock to stock, and I am currently re-evaluating my core pharma holdings, which consist of Pfizer and

GlaxoSmithKline

(GSK) - Get Report

.

Credit Suisse likes

Eli Lilly

(LLY) - Get Report

, Schering and Wyeth in the large-cap pharma space, and although it doesn't like the generic pharma sector all that much, it's most intrigued by

Watson Pharmaceuticals

(WPI)

and

Barr Pharmaceuticals

(BRL)

.

Regardless of whether the drug companies have allies in the White House, headline risk will still be a factor. The caucus will likely prove to be more moderate than left wing, as long as the Democrats control both houses of Congress.

At the time of publication, Bagley was long Pfizer, GlaxoSmithKline, Merck, Wyeth and Schering-Plough, although holdings can change at any time.

Jeffrey Bagley, CFA, is a portfolio manager for McCabe Capital Managers, Ltd. Bagley received a master's of business administration in finance from Fordham University and a bachelor's of science in business economics from the State University of New York at Oneonta. Disclosed holdings may change at any time without notice. Under no circumstances does the information in this commentary represent a recommendation to buy or sell stocks. Bagley appreciates your feedback;

click here

to send him an email.

The information published in this article is for general information purposes only and Mr. Bagley expressly does not assume any fiduciary relationship or obligations arising from membership to this website. The information presented in this article is not a personalized recommendation or individual investment advice to buy, sell, or hold any investment or security of any kind. The trades recommended by Mr. Bagley may not necessarily constitute appropriate investments for you. You should consult your own financial adviser. Mr. Bagley's articles are based on his personal research and opinions, news and financial data available in the public domain, or other sources that are considered to be reliable, but cannot be guaranteed to be accurate or complete. As Mr. Bagley or his clients may currently be holding, or selling short, securities that are mentioned on this website, he or his clients may financially benefit from any increase or decrease in share value that the public disclosure of his opinions or analysis may generate. Mr. Bagley reserves the right to purchase or sell any security at any time without any prior notice or update on this website. Such trades may even be contrary to previous recommendations. Mr. Bagley also reserves the right not to disclose all of his investments or proprietary analysis.