By Karen Langley
The 2020 election is still more than a year out, but one sector is already feeling the electoral heat: health-care stocks.
The group has been among the worst-performing sectors in the S&P 500 this year, rising just 3.9%, compared with an 18% gain for the index. Only the energy segment has fared worse, up less than 1% in 2019.
Although health-care stocks are often considered defensive investments that tend to hold up during economic turmoil, they can be vulnerable to any perceived changes in government policy. Some of investors' recent squeamishness coincides with a climb in the polls by the progressive presidential candidate Elizabeth Warren.
One of her competitors, Bernie Sanders, has proposed a Medicare for All plan that would move every American to a government-run health-insurance plan regardless of whether they have insurance through his or her employer. The plan, which Ms. Warren has endorsed, could effectively eliminate health insurers' business.
Shares of those companies are deep in the red this year. Centene Corp. is off 24%, Cigna Corp. has slumped 20%, UnitedHealth Group Inc. is down 11% and Anthem Inc. has fallen nearly 11%.
Daniel Clifton and Courtney Rosenberger at Strategas Securities found the underperformance of health-insurance stocks tracks the probability of Ms. Warren or Mr. Sanders clinching the Democratic nomination, as measured by the online prediction market PredictIt. Mr. Clifton, the firm's head of policy research, noted the stocks stabilized in late spring and early summer when former Vice President Joe Biden entered the race as the favorite but have since stumbled.
Mr. Biden, who is considered a moderate Democrat, has supported building on the Affordable Care Act with a public health-insurance option, such as Medicare, which would compete with private insurers.
"The equity market does not see Biden as a real threat to private insurance, the way you would Bernie Sanders or Elizabeth Warren," Mr. Clifton said.
The research firm CFRA earlier this month suggested investors reduce their exposure to the health-care sector, saying the group will likely face increasing political risks as the election cycle progresses.
"Statements that health care will be socialized, Medicare for All, combined with pressure from the Republicans on pharmaceutical cost controls and so forth" are adding pressure, said Sam Stovall, CFRA's chief investment strategist.
Health-care-focused mutual and exchange-traded funds, which are popular with individual investors, have recorded a net $13 billion in outflows this year through September, Morningstar Direct data show. That is the largest exodus among the 16 sector categories Morningstar tracks and compares with $1.5 billion of inflows in all of last year. Investors also bailed from the funds during the last presidential election cycle when they pulled a net $21.7 billion in 2016.
At the same time, hedge funds have appeared to view the recent weakness as a buying opportunity. About 18% of the net weight of their assets -- the largest exposure -- are in the sector, according to Goldman Sachs data through June 30. Technology came in second at 16%.
Within the health-care sector, hedge funds increased their weighting toward pharmaceuticals and health-insurance stocks, which Goldman noted are the industries most exposed to policy risk.
To be sure, valuations in the sector are more enticing after the recent selloff. Health-care stocks in the S&P 500 are trading at about 14.4 times future earnings, compared with 16.8 times for the broader S&P 500 and 19.6 times for the tech sector, according to FactSet.
Industry executives are increasingly finding themselves in the hot seat as candidates who support major changes to health policy gain traction among primary voters.
At a conference in September, Andrew Witty, chief executive of UnitedHealth's Optum health-services arm, acknowledged that individuals and businesses are fed up with the cost of health care and the industry needs to assess how to lower costs without compromising quality.
"I think the private sector needs to work as hard as it can to demonstrate to the politicians that when we apply our tools and our mindset, we can get a grip" on this, he said, according to a FactSet transcript.
A representative of UnitedHealth declined to comment further.
Of course, there is a variety of possible electoral and policy outcomes.
Investors have to assess how likely it is that the major health-care changes discussed in the Democratic primary will actually be made into law, said Amy Kong, senior portfolio manager at Fiduciary Trust Company International.
"If you believe it won't happen, it makes for an interesting opportunity to buy into some of those sectors that have been weakened because of political rhetoric," she said.
In addition to the health insurers, shares of pharmaceutical companies including Mylan NV and Pfizer Inc., along with biotechnology companies such as Biogen Inc. and AbbVie Inc., have suffered double-digit percentage declines this year. Others, such as the device companies Edwards Lifesciences Corp. and Stryker Corp., have gained more than 30%.
"Until you get through the 2020 election, until you see, particularly, what both houses of Congress look like, it's really hard to prognosticate what those outcomes could be," said Douglas Cohen, managing director for portfolio management at Athena Capital Advisors.
Mr. Cohen said his firm has selectively reduced client exposure to the health-care sector, particularly to some drugstores, distributors and insurance companies.
"Right now is kind of the point of essentially maximum uncertainty as it pertains to politics for 2020," he added.
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Write to Karen Langley at Karen.Langley@wsj.com