The health care sector and the consumer stables sector are my favorite sectors in the stock market. Many companies in both sectors possess enviable moats because of the inherent characteristics of the sectors as well as the long-term demographic trends. While I have spent a considerable time in researching and understanding many great consumer stable companies such as Brown Forman (BF.B, Financial), Coca-Cola (KO, Financial), General Mills (GIS, Financial), I have not dived deep into the health care sector mainly because the concern of circle of competence.
There are many things to like about the health care sector:
- Everybody needs health care – health care companies save our lives and improve the treatment processes for almost all types of chronic diseases. They make our lives better and give us hope for more medical breakthroughs.
- There are many niches within the health care sector that require specialized knowledge. Companies in these niche markets over time can build real competitive advantages through patents, unmatched expertise and scale.
- The worldwide demographic trend is very favorable, especially the aging of many societies.
- Very often it requires a certain set of very admirable characteristics for someone to operate a health care company – deep expertise, persistency, tenacity, integrity and intelligence.
- The health care sector attracts some of the best talents from all over the world, and a very high percentage of the health care profession possesses the capacity to suffer. (Think about the time, energy and financial cost to go through med school.)
All of the above are great but as an investor, I face many hurdles in terms of understanding the competitive moat with regard to specific health care companies, mainly due to two reasons:
- Lack of specialized knowledge and skill needed to assess the moat and economics of the business. Let’s take drug companies and medical device companies as examples. Without a degree in a related field, how do I assess whether an endovascular stent graft made by CR Bard (BCR, Financial) is better than the one made by Medtronics (MDT, Financial)? How can I assess the likelihood that a drug manufactured by, say, Norvatis AG (NVS, Financial) is not going to be made obsolete by another breakthrough drug from another major pharmaceutical company? If I cannot answer questions like these, I cannot assess the economic implications five years or 10 years from now.
- Concern about regulations and legal implications. Unlike consumer stables companies, health care companies face myriad regulations and potential legal obligations. The change in regulation can have a material impact on the operations of the sector as a whole. We’ve seen that in the years after both the Clinton Healthcare Reform and Obama Care. In the former case, health care companies got killed and in the latter case, the health care sector was a major beneficiary. It takes an excruciating amount of time to get a handle on the regulations, not to mention keep up with them. Health care companies also face litigation frequently, some of which can lead to devastating outcomes.
I think many investors face the same conundrum – inability to invest in something great within the health care sector due to constraints created by circle of competence. But this shouldn’t prevent us from investing with someone with a track record of succeeding in the field, not unlike those who invest with Warren Buffett while not understanding Berkshire Hathaway. I think the Vanguard Health Care Fund (Trades, Portfolio) may be the perfect candidate. Below is the track record of this fund:
As we can see, the track record is phenomenal. They achieved this track record by investing across all the industries within the health care sector, from pharmaceuticals to medical devices. They’ve assembled a team with specialized knowledge and skill set. It is truly an extraordinary fund. Perhaps this should be vehicle through which we can ride along for long-term prosperity in the health care sector.
