Healthcare ETFs can Work Even When Interest Rates Rise

S&P 500 healthcare stocks barely topped the benchmark index during the last Federal Reserve rate tightening cycle in 2004 through 2006, but 10-year Treasury yields are up 7.42% this year and nine of the top 10 non-leveraged sector ETFs are healthcare funds.

Rising 10-year yields have not stopped the iShares U.S. Healthcare ETF (NYSEArca: IYH) from rising 9.6% this year or the iShares U.S. Pharmaceuticals ETF (NYSEArca: IHE) from climbing more than 14%.

“Although pharmaceuticals and biotechnology stocks have typically underperformed during periods of rising interest rates, this is somewhat offset by several positive structural factors: aging populations, advances in genomics, an accelerating innovation cycle and underutilization of healthcare in developed countries,” according to a recent BlackRock research piece.

For instance, U.S. healthcare conglomerate Johnson & Johnson (NYSE: JNJ) announced that in the next four years, it expects to submit over 10 new medicines, which could potentially generate $1 billion in annual revenue each, Reuters reports.

Later this year, J&J plans to file for approval for the experimental drug daratumumab for multiple myeloma, a type of blood cancer, in the U.S. and Europe. Wells Fargo analyst Larry Biegelsen projects daratumumab sales could hit $1.3 billion by 2019.

The shift into research and development comes at a time as big pharmaceutical names brace for large drug patent expirations. Moreover, J&J believes it will sustain above-industry compound annual growth through 2019 – the industry average compound growth rate is expected to be around 3% for the period. Looking ahead, industry growth will be propelled by a slew of niche or specialized drugs with a targeted application for specific diseases. [Innovators Lift Healthcare ETFs]

J&J is almost 9.4% of IHE’s weight while the Dow component commands 9.1% of IYH. The $2.45 billion IYH allocates over 63% of its weight to pharmaceuticals and biotech stocks.