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A volatile year for Polar Capital Global Healthcare

Polar Capital Global Healthcare Growth & Income Trust has announced its annual results for the year ended 30 September 2015. In what was a volatile year for the trust, its NAV total return was 8.2% thereby modestly underperforming its benchmark, the MSCI Global Healthcare Index, which returned 9.6%. The discount to NAV narrowed by 2% over the course of the year to finish at 3.4%. The total dividend for the year is 3.65p, an increase of 4.3%.

In terms of attribution, the company was hampered by being underweight the US which, after Japan, was the best performing major market, helped by the strength of the U.S. dollar which rose by 6.6% against sterling over the period. However this was more than offset by stock selection in the US with the result that this part of the portfolio was a big contributor overall. The company says that its investments in the biotechnology sector, although small, benefited from strong stock selection by the managers and therefore made a meaningful contribution to performance. However, the trust lost out from being underweight health care services and managed health care both of which performed well.

The managers say that, for the healthcare sector, the key positive drivers for outperformance during the reporting period have been an increase in patient volumes and utilisation as well as mergers and acquisitions (M&A). Their one negative concern, over the last year, has been related to drug pricing with drug companies beginning to see more pricing pressure from insurers and governments – especially in therapeutic areas where there are a number of competing drugs. The managers say that the big negative in September came from U.S. Democratic Presidential Candidate Hillary Clinton who accused the pharmaceutical industry of “outrageous price gouging”. These comments relate to the business model for certain generic and speciality pharmaceutical companies but the negative market reaction suggests that there is a perceived risk of government interference in drug pricing. However, despite this the managers remain optimistic on the outlook for healthcare. They believe that pharmaceutical companies are delivering true innovation and, more importantly, value to patients and healthcare systems will be able to command strong pricing for their products. Over the last 12 months, they say that positive clinical data supports their view that drug pipelines are being replenished across the sector and this should translate into double-digit earnings growth for the sector. Reflecting this they say that they will continue to maintain a concentration in pharmaceutical stocks in the portfolio to the end of the Company’s life in January 2018. Their goal continues to be to deliver a total return of 10-12% per annum over the life of the Company and they believe that we can achieve this level of return going forward.

The managers say that the sub-sector composition of the income portfolio has not changed significantly over the last 12 months. The large weighting in pharmaceutical stocks has been maintained and they continue to hold positions in healthcare services, medical technology and healthcare real estate investment trusts (REITs).

Changes have been made to the top five positions in the income portfolio. The largest position is now Pfizer and Johnson & Johnson is also top five holding. Merck has been reduced they have sold their entire position in GlaxoSmithKline.

In terms of absolute attribution, the biggest contributors have been Eli Lilly and Bristol-Myers. The managers saw Eli Lilly as a pipeline-driven recovery story two years ago and they say that the stock has performed well on the back of positive clinical trial announcements. They say that they continue to like Eli Lilly and expect more clinical news flow over the coming year that should provide upside potential to consensus earnings projections. With regards to Bristol-Myers, the managers say that they believe that the company is entering a period of expanding margins and strong earnings growth and they think there is potential upside to earnings estimates over the mid-term.

The biggest detractors have been Sanofi and Teva. Sanofi was a particularly poor performer in the last quarter of calendar 2014. The managers say that the company continues to face pricing pressure in its core diabetes business and a series of disappointing earnings announcement led to the removal of the CEO in October 2014. A new CEO is now on board but the company has lowered expectations for the diabetes franchise in 2016. There is a pipeline opportunity at Sanofi but it may take time for new products to generate top-line growth if the company continues to see pressure in the diabetes business.

The managers say that they bought the position in Teva in late July just before the rapid market decline in August – the company looks well positioned to generate good mid-term earnings growth following the acquisition of Allergan’s generics portfolio and the launch of new branded drugs for central nervous system (CNS) diseases.

With regards to the growth portfolio, the managers say that the most important contributors during the period were biotechnology companies – notably, Esperion Therapeutics, Newron Pharmaceuticals and Receptos. All three of these companies reported positive news flow for their lead drug programmes over the course of the year. The biggest detractors to performance were two UK small companies – Futura Medical and Synairgen. Synairgen announced a major collaboration with AstraZeneca last year for its lead clinical programme for asthma. However, in the absence of any major clinical news flow the stock has slowly declined over the reporting period. Futura Medical has developed a condom containing Zanifil, a formulation of glycerol trinitrate, to help maintain an erection during intercourse. The managers say that the commercial launch of the product has proceeded more slowly than expected and the share price performance has been disappointing. However, they say that they expect the company to announce clinical data for other compounds in its pipeline over the next year.

In terms of outlook, the managers say that, over the next year, they think that macroeconomic factors and uncertainty will continue to drive the ebb and flow of global markets with volatility likely to continue. Given the economic uncertainty, and the prospect of low growth in most major economies, they think healthcare remains attractive. The fundamentals for the sector remain strong in their view – they say that an ageing population will continue to drive demand and companies that help to deliver better healthcare for less money are set to thrive.

A volatile year for Polar Capital Global Healthcare : PCGH

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