Book Profits on Health Care Stocks

NEW YORK ( TheStreet) -- I have been looking at economic sectors that are overvalued recently, and another sector where investors should take profits is health care.

At ValuEngine.com, we call this sector the medical sector and consider it to be 5.5% overvalued. Only three other sectors are more overvalued: Utilities by the largest amount, 13.4%, followed by consumer staples at 7.7% and finance at 6%.

Today, I will focus on the top 10 weighted stocks in the Health Care Select Sector SPDR Fund ( XLV), which contains 52 equity components and is my benchmark for the sector. On July 27, the XLV tested an all-time high of $38.90 after rallying 31.2% from its year-ago low of $29.64. XLV is up 79.8% since March 2009.

This strength should be difficult to sustain given the depleted new drug pipeline among the major pharmaceutical companies. The most notable prescription drug that recently came off patent is Pfizer's ( PFE) blockbuster cholesterol drug Lipitor. Now patients can use a Lipitor generic. Also, the companies involved with health care insurance must cope with the Affordable Care Act.

This week, Pfizer and Johnson & Johnson ( JNJ) ended plans to develop an Alzheimer's drug after a second trial failure. This drug held the promise of being able to slow the progress of the disease, but the latest trial showed it failed to do so.

On a positive note, after the market close on Tuesday, Express Scripts ( ESRX) reported that, while its second-quarter earnings fell 49% on acquisition-related costs, it's adjusted earnings per share were 88 cents, above analyst estimates, and revenue more than doubled. In addition, the pharmacy-benefits manager raised earnings guidance for 2012. The stock surged to a new year-to-date high of $59.95 in after hours trading.

Source: Thomson Reuters

The weekly chart above shows that XLV has a positive but overbought pattern with XLV above its five-week modified moving average at $38.02 with overbought momentum (12x3x3 weekly slow stochastic) reading. The 200-week simple moving average is a major support at $31.11. My annual value levels are $36.71 and $34.12 with weekly, monthly and quarterly risky levels at $39.48, $40.06 and $40.84.

The above table shows data from ValuEngine.com covering the top 10 of the 52 components of the XLV listed by weighting from top to bottom.

Reading the Table

OV/UN Valued -- The stocks with a red number are undervalued by the percentage shown. Those with a black number are overvalued by that percentage, according to ValuEngine.

VE Rating -- A 1-Engine rating is a strong sell, a 2-Engine rating is a sell, a 3-Engine rating is a hold, a 4-Engine rating is a buy and a 5-Engine rating is a strong buy.

Last 12-Month Return (%) -- Stocks with a red number declined by that percentage over the last 12 months. Stocks with a black number increased by that percentage.

Forecast 1-Year Return -- Stocks with a red number are projected to decline by that percentage over the next 12 months. Stocks with a black number in the table are projected to move higher by that percentage over the next 12 months.

Value Level: The price at which to enter a GTC Limit Order to buy on weakness (W-Weekly, M-Monthly, Q-Quarterly, S-Semiannual and A- Annual)

Pivot: A level between a value level and risky level that should be a magnet during the time frame noted.

Risky Level: The price at which to enter a GTC Limit Order to sell on strength.

Analysis of the Top 10 Components of Health Care SPDR

Looking at the overvalued and undervalued data, only three of the 10 stocks are undervalued: Johnson & Johnson by just 1%, United Healthcare ( UNH) by 17% and Express Scripts by 12%, though these numbers do not take into account the after-hours pop in its share price on Tuesday.

All 10 of the medical sector stocks in the table are rated buy or better, according to ValuEngine, with UNH a strong buy.

All 10 have traded higher over the past 12 months by 13% to 58.1%, led by Amgen ( AMGN), up 58.1%, and Gilead Sciences ( GILD), up 52.4%, because the biotech companies are likely to have the more robust new drug pipelines. And they are all projected to be higher 12 months from now by 6.2% to 13.4%, with reasonable price-to-earnings ratios between 10.6 and 17.5 times forward 12-month EPS estimates.

The author advocates the use of GTC Limit Orders to add to long positions or become less short on share price weakness to the Value Levels. Traders should enter GTC Limit Orders to reduce the long positions or to add to a short position on strength to Risky Levels.

At the time of publication, the author had no positions in the stocks mentioned and no other conflicts.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.
Richard Suttmeier has an engineering degree from Georgia Tech and a master of science from Brooklyn Poly. He began his career in the financial services industry in 1972 trading U.S. Treasury securities in the primary dealer community. In 1981 he formed the Government Bond Department at LF Rothschild and helped establish that firm as a primary dealer in 1986. Richard began writing market research in 1984 and held positions as market strategist at firms such as Smith Barney, William R Hough, Joseph Stevens, and Rightside Advisors. He joined www.ValuEngine.com in 2008 producing newsletters covering the U.S. capital markets, and a universe of more than 7,000 stocks. Richard employs a "buy and trade" investment strategy and can be reached at RSuttmeier@Gmail.com.

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