Unless you've been living under a rock, you should be quite aware of "the situation in Europe." The ongoing European debt crisis has wreaked havoc on the markets, creating fears of European exposure and of stock market exposure in general. One way to maintain an allocation to stocks while watching the downside is to buy into health care, a defensive sector that sees more stable demand than volatile industries more sensitive to the economic cycle.
The easiest way to play health care is to buy a diversified giant such as Johnson & Johnson (NYSE: JNJ), which generates revenue from consumer, pharmaceutical, and medical device segments. Seventy percent of this company's revenue is from markets in which it is the No. 1 or No. 2 player globally, and it has a long track record of success, having increased dividends for 49 years in a row.
Another way to increase one's health-care allocation is to buy into big pharma through stocks such as Pfizer (NYSE: PFE) or Merck (NYSE: MRK), which boast fat dividend yields. If you're afraid of patent expirations such as Pfizer's recent loss of top drug Lipitor, you can avoid branded pharmaceutical companies in favor of a generic-drug maker such as Teva Pharmaceutical (Nasdaq: TEVA).
While these are commonly accepted ways to boost health-care exposure, they all unfortunately share an ill-fated similarity: These large players in the health-care space are all global behemoths that derive a significant portion of revenue from all over the world, with Europe being a key market for each one. This can cause a problem if revenue comes from strapped governments, who will likely demand price cuts or spend less as they deal with austerity and debt crises.
These companies are likely to perform decently in the long haul no matter what happens in the short term, but there are some alternative health-care plays for investors who prefer to steer clear of the mess in Europe for a while.
Option No. 1: Lab testing
The U.S. clinical lab testing market is roughly $55 billion, with major players Quest Diagnostics (NYSE: DGX) and LabCorp (NYSE: LH) taking just over 20% of the market share. It's a fragmented market, with more than 5,000 independent labs across the country. As the only players on the national scale, Quest and LabCorp have economies of scope (many kinds of tests) and scale (access and distribution network). They routinely engage in fold-in acquisitions in order to gain access to new markets and/or new tests, further strengthening their positions.
Out of a projected $2.6 trillion spent on U.S. health care in 2010, lab testing accounted for only 2% to 3% of total spending, yet it influenced 70% to 80% of physician decisions. It's a low-cost portion of the pie that plays an essential role in the majority of informed medical decisions. As such, lab testing figures to play a key role in health care in the future without much chance of drastic drops in demand.
Best of all, both companies have much more room to grow within the U.S. alone, since they only have just over 20% market share. While the European debt struggles may visibly affect the revenue of bigger players in health care, these lab test providers are affected more by things like frequency of visits to the doctor's office in the U.S.
Option No. 2: Health-care services
Another company deriving the majority of its sales from the U.S. is UnitedHealth Group (NYSE: UNH), a diversified health and well-being company focused on improving overall health while also improving the performance of the health-care system, thereby lowering costs. In addition to being the largest health insurer in the U.S., it provides other services such as health management services, technology and database management, and pharmacy benefit management services.
Through its network of more than 75 million people served, UnitedHealth is a very important player on the health-care scene. Its base of members is extremely important, since it affords the company bargaining power to keep its costs somewhat low. While UnitedHealth is the largest such company, competitors such as Aetna and WellPoint are also viable options.
Foolish bottom line
Health-care stock prices have been depressed due to looming legislation that might potentially threaten the profitability of the sector, but demographic trends point to much higher health-care spending in the future. A whole generation of baby boomers is just starting to reach retirement age and people are living longer than they did many decades ago, both trends that will demand more health-care treatment going forward.
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