Healthcare stocks are soaring and the hedge funds who back them are breathing a sigh of relief this morning as the Supreme Court ruled that the government subsidization of the healthcare costs of lower income Americans in states without state-run exchanges, the very centerpiece of the Affordable Care Act (ACA), is legal. Healthcare stocks have reacted positively across the board at the decision, which threatened to result in a decline of customers who could receive subsidies and afford health treatments as a result. Among the stocks trading up today are those of HCA Holdings Inc (NYSE:HCA), which is up by over 8%, Tenet Healthcare Corp (NYSE:THC), up by more than 11%, Community Health Systems (NYSE:CYH), up by nearly 10%, and Universal Health Services, Inc. (NYSE:UHS), up by 7%.
As James Dondero’s Highland Capital Management expressed in a short report issued earlier this month, a ruling against the government in the King vs. Burwell (government) case could’ve resulted in the entire healthcare industry declining by as much as 2%, and a 5%-8% decline for hospital stocks on the day of the ruling (today). Dondero, who has positions in several healthcare stocks including HCA Holdings Inc (NYSE:HCA) and Universal Health Services, Inc. (NYSE:UHS), did stress that the impact of a negative ruling would not have been as disastrous as some may have feared, as it ultimately would have affected only a portion of the insured population who receive the subsidy, about 6.4 million people in all.
The legal challenge alleged that Obamacare was unconstitutional, as it was providing subsidization to individuals who weren’t actually enrolled with state-run health insurance exchanges, as they had to be according to the language as literally written in the Act. However the court ruling declared that language in the act allows the government to offer health insurance subsidies (in the form of tax credits) to people in any state, including those people who use the federally-run exchange HealthCare.gov.
The news was good for several other hedge funds for whom some of the stocks in question were top picks. Among them is billionaire Larry Robbins (pictured above), who had both Community Health Systems (NYSE:CYH) and Tenet Healthcare Corp (NYSE:THC) in his top ten overall picks, while also having HCA Holdings Inc (NYSE:HCA) and Humana Inc (NYSE:HUM) (up by 2% today) in his top 20. Richard Perry’s Perry Capital had new positions in both Tenet Healthcare Corp (NYSE:THC) and Community Health Systems (NYSE:CYH) heading into the second quarter, while billionaire Lee Ainslie held notable positions in Universal Health Services, Inc. (NYSE:UHS), Community Health Systems (NYSE:CYH), and HCA Holdings Inc (NYSE:HCA).
Most importantly, it was not just a good day for hedge funds, but a good day for Americans; or at least for those who don’t think it would be fun to steal the health subsidies of Americans who desperately need them, all over an absurd technicality of the wording of the ACA.
Most investors don’t understand hedge funds and indicators that are based on hedge funds’ activity. They ignore hedge funds because of their recent poor performance in the bull market. Our research indicates that hedge funds partly underperformed because they aren’t 100% long. Hedge funds’ fees are also very large compared to the returns generated, which reduces the net returns delivered to investors. We uncovered through extensive research that historically, hedge funds’ long positions in certain stocks actually outperformed the market greatly, and it has held true to this day. For instance, the 15 most popular small-cap stocks among funds has beaten the S&P 500 Index by more than 84 percentage points since the end of August 2012. These stocks returned a cumulative of 142% vs. less than 58% for the S&P 500 Index (read the details). That’s why we believe investors should pay attention to what hedge funds are buying, particularly in the small-cap sector, rather than what their net returns are, which the media primarily focuses on.