In health care sector, favored funds spread bets across groups

Key is minimizing losses during difficult times

Dollars & Sense

July 28, 2002|By Emily Hall | Emily Hall,MORNINGSTAR.COM

Samuel D. Waksal, the beleaguered former chief executive officer of ImClone, maker of a cancer drug, has become the symbol of biotechnology's fall from grace.

A year ago, ImClone was one of the darlings of the health care industry. Its cancer drug Erbitux showed interesting results in hard-to-treat solid tumors. But the Food and Drug Administration rejected ImClone's application for Erbitux in December, and the stock has since plummeted amid questions about sloppy clinical trials and accusations of insider trading.

With ImClone's fall, bullish biotech investors seemed to realize - yet again - that the emperor wasn't wearing any clothes. Last year wasn't a particularly good year for biotechs, but this year has been devastating. The Nasdaq biotechnology index is down nearly 53 percent for the year through mid-July. To make matters worse, the pharmaceutical industry has also stumbled in recent months. The only bright spot has been health-services stocks, many of which are in positive territory.

In all, the typical health-care fund is down 33 percent through the first 6 1/2 months of the year, and the range between the best and worst is wide. Fidelity Select Medical Delivery - a quirky and volatile fund dedicated to health-services stocks - has posted a gain of more than 10 percent (one of only two offerings in the group to show a gain this year). By contrast, a handful of extremely aggressive funds, including Amerindo Health & Biotechnology Fund, have lost more than 55 percent.

Few investors are likely to seek a health care fund these days. But for those who are, a diversified approach is best. Dedicated subsector funds, especially in biotechnology, are too volatile to be worthwhile. Favorite funds in the group spread their bets across groups, which can help minimize losses in difficult times.

Eaton Vance Worldwide Health Sciences (FSPHX) Fund goes its own way. Longtime manager Sam Isaly invests in diverse areas such as biotechs and big drug companies, large and small caps, and domestic and foreign issues.

Isaly tends to own more foreign stocks than do his peers, as well as a bigger serving of obscure domestic issues. The result has been excellent long-term returns with surprisingly modest volatility. Investors should note that Isaly's fondness for smaller companies and his willingness to pay up for high-growth issues court more volatility than the fund's risk scores might suggest, though.

Fidelity Select Health Care Fund (FSPHX ) offers broader exposure to health care subsectors than do most peers, though the emphasis is on large-cap pharmaceutical companies. That focus can be a burden, as it was in 1999 and much of 2000, but the fund's long-term returns remain competitive.

Further, big-cap pharmaceuticals tend to be more stable than other health stocks, resulting in below-average risk for this fund. This isn't a fund for those who value long manager tenure. Like Fidelity's other sector funds, it's something of a manager training ground. That said, the strategy has remained consistent, and performance hasn't suffered despite manager turnover.

Vanguard Health Care Fund (VGHCX), with $16.5 billion in assets, is the biggest specialty fund in any category. Yet that hasn't hindered the fund's performance. Manager Ed Owens has consistently guided it to strong finishes. (If you care about manager tenure, you should note that he has been there for 18 years.)

Owens spreads his investments across blue-chip drug companies, biotech companies, medical-device manufacturers, international drug companies and health-service organizations such as HMOs and drug distributors, based on where he sees the best values. That combination of diversification and a value bent has resulted in one of the least volatile of all health-care funds. Low expenses add to the appeal. A drawback for new investors is the fund's $25,000 minimum initial investment.

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