Can health stocks continue rallying? Probably. The SPDR sector fund has a price-earnings multiple of 18, about the same as the figure for the S&P 500. Many health stocks could deserve a premium at a time when they seem poised to deliver increased revenue and solid dividends.
But after their big rally, the biotech ETFs could be expensive, warns Matt Hougan, president of analytics of ETF.com. "The runup in stocks was awfully quick, and there are not a lot of earnings to support the multiples," he says. Hougan says that for much of the past decade biotech stock stagnated because earnings were scant. Then in recent years, leading companies such as Gilead Sciences (GILD)and Amgen (AMGN) developed solid track records for delivering profits.
Hougan cautions that biotechnology is still in its early stages. Of the 56 companies in SPDR S&P Biotech (XBI), only 15 have earnings, he says. Hougan says that the biotechnology industry seems poised to experience a great earnings surge as more drugs win approval. But investors should be prepared for setbacks along the way.
Biotechnology investors who prefer to focus on the biggest profitable companies should try iShares Nasdaq Biotechnology. Because it weights holdings according to their market capitalizations, the ETF has a big stake in successful companies, including Biogen (BIIB) and Celgene (CELG). SPDR S&P Biotech holds roughly equal stakes in each of its holdings. As a result, the SPDR portfolio includes sizable positions in shaky small companies that have yet to make their marks. Last year, many of the top-performing biotech stocks were profitable stars, and the iShares market-weighted fund outdid SPDR by 7 percentage points.
At the time of publication, the author held no positions in any of the stocks mentioned.
This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.