When it comes to investing in the U.S. health care sector, it has paid off big to bet on smaller stocks.
So far this year, the health care sector within the small-cap S&P 600 has gained about 14 percent as investors point to a boost from an expected pick-up in deal-making. Those gains far outpace the 1.5 percent decline for the health care sector within the S&P 500, the benchmark for large-cap U.S. companies, as of Monday's close.
While small-cap stocks in general have fared better than large-caps this year, the edge has been slight -- with the overall S&P 600 up 0.8 percent versus a 0.6 percent dip for the S&P 500.
An expectation for increased acquisitions in health care has benefited small stocks, with deal premiums and improved valuations leading to higher share prices, investors say. The anticipation of more consolidation has gained steam as investors began anticipating the federal tax-reform package that paves the way for larger companies to bring back money from overseas.
Health care analysts also point to relatively strong innovation among smaller companies as helping their shares, while some investors cite the potential for smaller stocks to be more immune to concerns about regulatory pressures in health care.
"A lot of it is all the M&A and consolidation that has been going on. You are seeing it across medical devices, you pretty constantly see it in pharma and biotech, now you are seeing it in large cap deals in the insurance and (pharmacy benefit) side of things," said Jeff Jonas, a portfolio manager focusing on health care for Gabelli & Co. "That has given the big boost." Over the past three years, small-cap health care has also beaten large-cap - 65 percent to 11.5 percent - with small-cap outperforming large in the four biggest industries: pharmaceuticals, biotechnology, equipment and supplies, and providers and services.
The top small-cap health care stock gainers this year include diagnostics company Abaxis Inc, biotech Enanta Pharmaceuticals and HealthEquity Inc, which provides health savings accounts.
Among large health care companies, shares of biotech firms Celgene Corp and Biogen Inc have stumbled in 2018 amid product setbacks, along with shares of Cigna Corp , following its planned purchase of pharmacy benefit manager Express Scripts.
The stock price of the largest health care company by market value, Johnson & Johnson, is down about 9 percent in 2018.
“Big-cap health care is generally dominated by major pharma, and they have done nothing ... Same thing with big biotech,” said Les Funtleyder, health care portfolio manager at E Squared Capital Management. "The interesting science has all happened at the small-cap therapeutic level."