Speaking to American state governors this week in the state dining room of the White House, Donald Trump hit on a point that is of no surprise to investors: healthcare is “an unbelievably complex subject”.
The Affordable Care Act, one of the two key pillars of the healthcare reform signed into law by former US President Barack Obama in 2010, is 906 pages long — the table of contents alone covers more pages than some children’s books.
“Obamacare is a failed disaster,” Mr Trump told his audience. But he also acknowledged that overhauling the sprawling healthcare system is no small feat. US healthcare spending is projected to be $3.5tn this year, according to the Centers for Medicare & Medicaid Services, meaning any reform plans will have wide-ranging consequences.
While the wider US stock market has moved steadily upwards since the election, setting many highs, the performance of healthcare stocks has been bumpy.
For investors in US healthcare industry spanning insurers to hospital operators — recent weeks have been spent trying to decipher how the broad brushstrokes of reform pitched by Mr Trump and Republican legislators might actually morph into law.
“The outcome of congressional Republican plans to repeal and replace the Affordable Care Act is as hard to predict as any legislative issue we can recall,” says Alec Phillips, a political economist at Goldman Sachs.
The exercise for money managers brings risks and rewards. Between polling day and the end of 2016, the S&P 500 healthcare sector lagged behind the broader benchmark, rising less than 1 per cent compared with a 4.6 per cent jump for the S&P 500. By contrast, the healthcare sector is the second-best S&P 500 performer this year, with an almost 10 per cent gain.
Part of the initial pain for the sector relates to fears regulations may be changed in a way that could be bearish for the industry, says Teresa McRoberts, a portfolio manager at Fred Alger Management.
“We came into the year very oversold. There was a lot of uncertainty and fear priced in,” she says. This year “people have gotten a little more comfortable with political and headline risk from Washington”.
But many questions remain. In his first speech to Congress late on Tuesday, Mr Trump outlined a proposal for reforming Obamacare, but provided scant detail on how the administration would achieve its goal of changes “that expand choice, increase access, lower costs, and at the same time, provide better healthcare”.
For many on Wall Street, it is not the fate of Obamacare’s controversial individual insurance mandate, its marketplaces, or tax credits that help offset premiums for low and middle income Americans that is uppermost in their minds. Instead, investors have homed in on the future of Medicaid. The programme provides insurance for America’s poor, costing the US federal government $344bn in 2015, and state and local governments $201bn, CMS data show.
Obamacare provides states the option to broaden the eligibility requirements for Medicaid. The legislation funds the entire expansion from 2014-16, and then reduces the proportion to 90 per cent by 2020.
Some 11.2m adults who are newly eligible because of Obamacare have enrolled in Medicaid, bringing the total number to an estimated 72.2m in 2016, according to a CMS report.
But expanding coverage comes at a high price: Covering newly eligible adults is projected to cost $806bn in total from 2016-2025, $741bn of which is to be paid by the federal government, the CMS forecasts.
Some conservative lawmakers are keen to ditch the expansion, while others who sit closer to the centre would like to see it sustained in some form. Further muddying the issue is that 16 of 31 states that have chosen to expand Medicaid have Republican governors, according to the Kaiser Family Foundation.
“We will see changes to Medicaid. Stocks have paid attention,” says Marshall Gordon, senior research analyst for health at ClearBridge Investments. “They sold off when Trump was elected. They came back on assumptions people won’t lose coverage. That assumption might be premature.”
Ms McRoberts agrees that the question of Medicaid expansion is the “most difficult” part of the potential reforms to Obamacare to handicap.
“Congress doesn’t want to take things away from people; they want to lower the amount Washington is spending on Medicaid. That is the goal — the question is how you implement that,” she says.
Mr Gordon reckons that healthcare providers, such as hospitals, could “face very significant challenges” if the Medicaid expansion is rolled back since they “benefited the most over the last several years as coverage expanded”.
Before the Medicaid expansion, “they provided the care for the people and they were writing it off, and then all of the sudden they started getting paid for that. The revenue fell straight to the bottom line”, he says.
The S&P 500 healthcare facilities index, which tracks the two US hospital stocks on the benchmark, slid 11.2 per cent from the election to the end of 2016 amid worries that individuals might lose insurance. The index has soared 17.9 per cent this year as the concerns have ebbed — at least for now.
Managed care providers that have a significant exposure to Medicaid could also take a hit from a rollback, Mr Gordon says. That list includes Molina and Centene, according to Goldman Sachs research.
Mr Gordon adds that larger insurers have “some exposure”, but that the impact to them would be more limited.
On the other side of the spectrum, potential changes to underwriting standards enacted by Obamacare might benefit other health insurers that are active in the small group market, according to Mr Gordon. Small group plans are those that are used by businesses with one to either 50 or 100 employees, depending on state regulations.
In particular, Mr Gordon says he will be watching for changes in regulations that prevent insurers from excluding certain individuals and limits on factors such as the difference in premiums that can be charged to participants and on curbs to gross margin.
“If you look at some of the major insurers those regulations have really hurt the profitability of their core small group insurance businesses,” he says.
Healthcare investors are also paying close attention to the debate over rising drug prices, which caused ructions in the shares of pharmaceutical and biotechnology groups over the past few years.
Mr Trump told Congress on Tuesday that the US should “work to bring down the artificially high price of drugs and bring them down immediately”. However, many analysts note that significant reform to drug prices is unlikely in the near term.
Still, Ms McRoberts cautions that “we could wake up one day and there is a very negative proposal from the White House. And we need to decide if the House and Senate will protect the industry or side with Trump.”
The wild ride for healthcare stocks does not look like it is over.
Additional reporting by Jessica Dye in New York