CIO Insights: A pulse check on the healthcare sector

10 minute read

Healthcare stocks have fallen out of favour lately, lagging the broader market as investors chased AI-driven and cyclical themes. Beneath the surface, however, opportunity might be building for the sector: earnings are recovering, valuations have reset, and long-term drivers remain intact. In this month’s CIO Insights, we take a fresh look at healthcare and explore why it deserves a place in a long-term portfolio.

Key takeaways

• Healthcare has lagged in recent years due to both macro and micro headwinds. Since late 2023, the sector has underperformed the broader market by about 45 percentage points. While it largely held up during the broad market selloff in 2022, it has struggled to keep pace in the recent rally as investors rotated into AI-driven and cyclical sectors. At the micro level, soft earnings, COVID-era normalisation, and policy uncertainty have weighed on sentiment.

• This underperformance appears more cyclical than structural, setting the stage for recovery. Our analysis suggests that the recent drag reflects short-term earnings softness and investor positioning, rather than a structural decline in demand or profitability. Stronger earnings momentum, supported by product innovation and emerging AI-driven efficiencies – particularly in key sub-sectors like pharmaceuticals and biotechnology – could act as a catalyst for renewed investor interest.
• For global investors, healthcare remains a defensive anchor with long-term growth upside. Even as current macro conditions tilt toward more cyclical sectors, healthcare offers a unique combination of non-discretionary demand and innovation-led upside. While US government policies aimed at curbing pricing and healthcare spending may be a drag on some domestic-focused subsectors, global healthcare demand continues to rise – driven by aging populations, the growing burden of chronic diseases, higher spending in developed markets, and expanding access in emerging markets. For long-term investors, the sector offers a rare mix of resilience and growth.

(See our Glossary at the end of the article for descriptions of terms used.)

Macro and micro headwinds have hit the healthcare sector recently

Healthcare stocks have lagged behind the broader market in recent years. Since late 2023, the sector has underperformed the S&P 500 by about 45 percentage points – even as major developments surrounding GLP-1 drugs (new treatments for diabetes and weight loss) boosted gains for large-cap pharmaceutical names like Eli Lilly and Novo Nordisk.

Macro factors: a resilient US economy has supported a rotation into cyclical sectors

A key driver behind healthcare’s recent underperformance has been the resilience of the US economy, which has led investors to favour cyclical sectors with greater sensitivity to growth. With optimism around earnings and broader demand strengthening, investors rotated into sectors such as technology, industrials, and financials, and away from defensive ones like healthcare, which tend to perform better in weaker or more uncertain economic environments.

In particular, AI-driven momentum has powered gains in tech, with the Magnificent Seven expected to deliver 40% year-on-year earnings growth – far outpacing the broader S&P 500’s 9%. Industrials and financials have also benefited from rising capital expenditure, fiscal spending, and expectations of looser regulation under the Trump administration.

Chart 1 illustrates how this has played out: with investors favouring cyclical sectors, the relative performance of defensive sectors – like healthcare – has waned.

Micro factors: a post-COVID earnings reset amid sectoral headwinds 

On top of these macro pressures, company- and sector-level challenges have weighed on healthcare’s performance:

• Earnings growth turned negative across several key subsectors in recent years as pandemic-driven demand faded.

• Biotech has faced a tougher funding environment, slower FDA approvals, and muted M&A activity.
• Large-cap pharma has seen COVID-related revenues fade and face looming “patent cliffs” (when drug patents expire and cheaper generic alternatives enter the market) – though GLP-1 drugs for diabetes and obesity have helped to cushion the impact.
• Service providers are dealing with rising labour costs, while growth has also moderated for device makers and diagnostics firms since the pandemic.

As shown in Chart 2, forward earnings-per-share (EPS) growth declined across most healthcare subsectors from 2022, with softness persisting into 2024. However, earnings are beginning to recover in key areas – particularly pharma and biotech, which together account for nearly 60% of the sector’s market cap.

Healthcare’s underperformance looks more cyclical than structural, setting the stage for recovery

Forward earnings growth for the healthcare sector is expected to come in at around 8% – not far off from the 9% projected for the S&P 500. This points to an improving earnings outlook after a period of softness, and could be a sign that the sector is starting to turn a corner, especially if cyclical pressures begin to ease.

Valuations have also reset to more attractive levels: Chart 3 below shows the sector now trades at 16x forward earnings, slightly below its 10-year average of 16.5x and well below the S&P 500’s multiple of 22.3x (which sits well above its historical norm of 18.6x). If earnings momentum continues to build, current valuations may offer a compelling entry point for investors looking for a mix of resilience and longer-term growth potential.

Looking ahead, earnings growth should start to recover as the sector emerges from its post-COVID slump

At the sector level, as highlighted earlier in Chart 2, earnings are on the road to recovery – particularly in the pharmaceutical and biotech sub-sectors. This rebound appears to be driven by a combination of new revenue streams and resilient margins:

• On the revenue side, product innovations have been opening up new growth channels. The success of several high-profile drug launches – such as GLP-1 medications for obesity, and Alzheimer’s treatments – is contributing to stronger demand and expanding commercial opportunities, particularly within the pharmaceutical segment.
• On the cost side, margins remain healthy: forward margins for pharma have been steady around 30%, while biotech margins, though down from 2021–22 peaks, remain elevated relative to historical norms. As AI-enabled tools continue to scale, further productivity gains could support margins and earnings growth.

The market does appear concerned about some headwinds for the sector, but these risks seem either well priced in or not significant enough to derail its broader recovery:

• US healthcare spending cuts in the One Big Beautiful Bill (OBBB) Act – totaling US$1 trillion in Medicaid reductions over the next decade – could pressure service providers and insurers, and weigh on broader demand. However, these cuts amount to roughly US$100 billion annually, representing a 2% reduction each year versus projected spending growth of 5.8% on average over that period (1).
• Upcoming “patent cliffs” could pressure revenues for major pharmaceutical companies as generic alternatives enter the market. These expirations are known well in advance however, and are likely already priced in.
• FDA job cuts may slow drug approvals in the near-term, especially for pharma and biotech firms – though the agency is reportedly exploring AI to help fast-track reviews (2).
• Ongoing tariff risks continue to add uncertainty to global healthcare supply chains.

The long-term case for healthcare: resilient demand, innovation, and defensive qualities

Looking ahead, global healthcare demand is set to continue rising, underpinned by structural forces. The US remains the world’s largest healthcare spender at US$5 trillion annually, or 17% of GDP. While the OBBB is set to rein in spending, it’s unlikely to significantly alter the broader trajectory. What’s more, entrenched inefficiencies in the healthcare system and high baseline costs mean meaningful change will likely be slow.

Beyond the US, structural forces like aging populations and the rising burden of chronic diseases (e.g., diabetes, cardiovascular disease, etc.) are driving sustained – if not faster – growth in healthcare demand. OECD data show that from 2020 to 2023, healthcare spending in other developed markets rose 6.7% on average (3), outpacing the US at 4.1%. 

In emerging markets, rising incomes, urbanisation, and increased government investment further support healthcare demand. Over the past two decades, per capita healthcare spending has grown by 8–9% annually in middle- and upper-middle-income countries. If sustained, healthcare spending should at least keep up with GDP growth – if not exceed it. As Chart 4 highlights, many of these countries still have considerable room to catch up in terms.

Innovation in the sector also reinforces the long-term case:

• Next-gen therapies like GLP-1s from Eli Lilly and Novo Nordisk are reinvigorating product pipelines, driving massive revenue growth in recent years.
• The industry is using AI to accelerate research and development. Biotech startup Insilico Medicine, for instance, advanced an AI-discovered drug for a lung disease into mid-stage clinical studies, and larger firms like Amgen are using AI to speed up their own development timelines.
• Healthcare companies are also increasingly using AI to boost operational efficiency and offset cost pressures – from GE HealthCare’s partnership with NVIDIA on AI-powered medical imaging to Takeda Pharmaceutical using AI tools to help improve patient selection in clinical studies.  

Finally, healthcare has historically provided downside protection during periods of economic uncertainty, making it a valuable diversifier within a portfolio’s equity allocation. Our General Investing portfolios, for example, maintain healthcare exposure alongside other global sectors. Currently, with market positioning still skewed toward growth-heavy sectors like tech and industrials, healthcare stands out as a source of resilience and upside potential – especially if macro conditions start to deteriorate or sentiment shifts.

In short, the healthcare sector’s reset presents a more attractive entry point into a space that offers both defensive qualities and innovation-led growth potential. With earnings recovering and momentum building across key subsectors, healthcare looks well-positioned for its next chapter.

Glossary

Cyclical sectors

Industries whose performance tend to follow economic cycles, thriving during periods of growth and struggling during downturns.

Defensive sectors

Industries that provide essential goods and services, maintaining relatively stable performance regardless of economic conditions.

Forward earnings-per-share (EPS)

A company's projected profit per share, typically over the next 12 months.

Forward earnings multiple

How many times forward EPS investors are willing to pay for a stock. A 16x multiple means the stock trades at 16 times its expected forward EPS.

References

1. Keehan, S. P., Madison, A. J., Poisal, J. A., Cuckler, G. A., Smith, S. D., Sisko, A. M., Fiore, J. A., & Rennie, K. E. (2025). National Health Expenditure Projections, 2024–33: Despite Insurance Coverage Declines, Health To Grow As Share Of GDP. Health Affairs, 44(7). Retrieved from: https://www.healthaffairs.org/doi/10.1377/hlthaff.2025.00545
2. Jewett, C. (2025). F.D.A. to Use A.I. in Drug Approvals to 'Radically Increase Efficiency'. The New York Times. Retrieved from: https://www.nytimes.com/2025/06/10/health/fda-drug-approvals-artificial-intelligence.html
3. Wager, E., McGough, M., Rakshit, S., & Cox, C. (2025). How does health spending in the U.S. compare to other countries? Peterson-KFF Health System Tracker. Retrieved from: https://www.healthsystemtracker.org/chart-collection/health-spending-u-s-compare-countries/