What Pfizer's New Deal Means for Healthcare | Barron's Streetwise

Here's a comprehensive summary of the YouTube video transcript:

Key Concepts

• Government Shutdown: A situation where Congress fails to pass appropriation bills, leading to the closure of non-essential government services.
• Debt Ceiling Standoff: A political confrontation where the government's ability to borrow money is threatened, potentially leading to a default on its obligations.
• Fiscal Chicken: A term used to describe political standoffs where parties threaten adverse consequences to back down opponents.
• Dividend Yield: The annual dividend payment per share divided by the stock's current market price.
• Compounding: The process of reinvesting dividends to purchase more shares, leading to exponential growth over time.
• Most Favored Nation (MFN) Pricing: A pricing agreement where a country receives the lowest price offered to any other developed nation.
• Pharmacy Benefit Managers (PBMs): Intermediaries that negotiate drug prices and rebates with pharmaceutical companies on behalf of health insurers.
• Net Present Value (NPV): The current value of future cash flows discounted at a specific rate.
• Loss of Exclusivity (LOE): The point at which a drug's patent expires, allowing generic competition and typically leading to a significant drop in revenue.

Government Shutdown and Market Impact

The podcast begins by discussing the current government shutdown, noting that while it's a concerning event for those directly affected, the stock market has not shown significant negative reactions. Historically, government shutdowns since 1976 (21 in total) have seen the stock market increase by an average of 0.11%, with positive returns occurring 52% of the time. The speaker cautions that while markets tend to "shrug off" these events, this historical resilience could embolden politicians to prolong standoffs, potentially leading to market reactions later. The shutdown's impact on economic data, such as the missed jobs report, is highlighted as a concern for investors who rely on this information to gauge economic health.

The Significance of Dividends and "Suspicious" High Yields

The discussion shifts to dividend yields, noting that the S&P 500's current yield of 1.1% is the lowest since the dot-com bubble, attributed to high stock valuations and companies hoarding cash. The speaker identifies eight stocks in the S&P 500 yielding over 6%, labeling them as "suspicious." The rationale is that such high yields can signal a struggling company or investor concerns about a dividend cut.

Key Points on Dividends:

• Long-Term Importance: Reinvested dividends have historically contributed significantly to total returns. Since 1960, they accounted for 85% of the S&P 500's cumulative return.
• Decadal Contribution: Dividends contributed 17% of returns in the 2010s and 12% in the early 2020s, a period dominated by growth stocks. The average contribution since the 1940s is 34%.
• Future Outlook: Dividends may become more important if stock valuations remain high and future returns are lower. In past decades with poor stock returns (e.g., the 1940s and 1970s), dividends accounted for a much larger portion of total returns (67% and 73%, respectively).
• Strategy: Buying stocks solely for high yields is not advisable. Research suggests that stocks with moderate yields tend to outperform high yielders over the long run. Rising dividend yields are particularly attractive, with stocks exhibiting new or rising dividends returning an average of 10.2% annually, compared to 6.8% for stagnant dividends and negative returns for dividend cutters.
• Investment Vehicles: Sensible approaches include index funds focusing on rising dividends (e.g., Vanguard Dividend Appreciation - VIG, yielding 1.66%) or those that include dividend growth and financial strength signals (e.g., Schwab US Dividend Equity - SCD, yielding 3.8%).

The "Suspicious Eight" Stocks with High Yields (>6%):

1. LyondellBasell (11.3% yield): A chemical company facing a glut in polyethylene. Free cash flow estimates are below dividend costs, and a dividend cut is considered possible.
2. UPS (7.8% yield): Facing a tariff-related demand slump and divesting low-margin business from Amazon. The company is undertaking significant capacity reduction. Management calls the dividend "rock solid strong."
3. Kroger Brands (7.3% yield): Profits are sliding due to inflation and consumers trading down. The rise of insurgent brands and the potential impact of obesity drugs are noted challenges.
4. Kraft Heinz (6.1% yield): Similar challenges to Kroger Brands, with a history of dividend cuts (2019). A plan to resplit the company is mentioned, but its impact on business growth is unclear.
5. Health Peak Properties (REIT): Counts drug companies as customers.
6. Alexandria Real Estate Equities (REIT): Counts drug companies as customers.
7. Pfizer (6.3% yield): Experienced a 14% jump in stock price after news of a new pricing initiative.
8. Altria (yield not explicitly stated but on the list): Faces steep volume declines in cigarettes, offset by price hikes. It has nicotine pouches but a smaller "smoke-free" business than Philip Morris International. It's one of two stocks on the list up over 30% this year.
9. Ford (6.1% yield): Benefited from a rush of customers buying vehicles before an EV tax credit expired. It's the other stock up over 30% this year.
10. Verizon (6.4% yield): The bull case includes growth in fiber broadband and efforts to stem wireless service losses. The bear case is the potential for a jinx after positive coverage. AT&T, previously a high yielder, has seen its price rise significantly, reducing its yield to 4%.

The median yield for this group is 6.3%. The speaker reiterates that buying stocks solely for high yields is not the best strategy.

Drug Pricing and the Pfizer Deal

The discussion turns to the pharmaceutical sector, noting that drug stocks are perceived as cheap due to concerns about government pricing crackdowns.

Key Points on Drug Pricing and the Pfizer Deal:

• Industry Valuation: Price-to-earnings ratios for drug stocks are 24% below their norm, with "pharma value stocks" being the cheapest since 2010.
• US vs. European Prices: US drug prices are generally higher than in other developed countries. If US branded drug prices were to match European levels, the net present value (NPV) of pharma companies could fall by approximately 24%.
• TrumpRx.gov Initiative: President Trump announced a deal with Pfizer allowing uninsured patients to purchase certain Pfizer drugs at discounts through the new website, trumprx.gov. This is seen as similar to programs offered by Eli Lilly and Novo Nordisk for their obesity drugs.
• Pfizer Deal Details:
  • Reprieve from Tariffs: Pfizer receives a three-year reprieve from 100% tariffs on imported drugs.
  • Most Favored Nation (MFN) Pricing for Medicaid: Pfizer will sell drugs to Medicaid at a price matching the lowest paid in developed countries.
  • Discounts on trumprx.gov:
    • Xeljanz (autoimmune): 40% off list price.
    • Zavzpret (migraines): 50% off list price.
    • Ubrelvy (dermatitis): 80% off list price.
    • Doss (osteoporosis): 85% off list price.
• Investor Reaction: Pfizer's stock jumped 14% over two days following the announcement, indicating investor relief.
• Criticism: The Wall Street Journal questioned the government's role as a drug marketer, asking why it needs to operate such a website.
• Complexity of Drug Pricing: The speaker and Evan Seagerman emphasize the complexity of drug pricing, distinguishing between list price, net price, out-of-pocket cost, and cash price. Pharmacy Benefit Managers (PBMs) play a significant role in the current system, taking rebates and discounts.
• MFN Pricing Explanation: The concept aims to equalize drug prices by either raising prices in other countries or lowering them in the US, preventing American taxpayers/patients from being "ripped off."
• Impact on PBMs: The trumprx.gov program aims to equalize pricing by removing PBMs or middlemen, similar to how obesity drug programs have been structured.
• Limited Scope: The current deal is primarily for Medicaid and select drugs, not for high-cost cancer drugs.
• Investor Relief: The deal with Pfizer is seen as a positive sign that the administration is willing to make deals that benefit patients without being detrimental to US pharma companies. This has reduced the "overhang" of uncertainty for investors.
• Future Uncertainty: Details on negotiated drug prices from the IRA for the second round of drugs are still pending, and political stances can change.

Evan Seagerman's Perspective on Pharma and Specific Stocks

Evan Seagerman, Head of Healthcare Research at Capital Markets, provides insights:

• Pharma Group Valuation: He agrees that the pharma group was cheap due to threats of tariffs and MFN pricing, as well as significant upcoming "loss of exclusivity" (LOE) events for major drugs (e.g., Merck's Keytruda).
• MFN Pricing Nuance: He explains that the complexity lies in defining "drug price" and that PBMs significantly influence net prices. He believes that simply imposing price controls won't materially change things due to this complexity.
• Pfizer Deal: He views the Pfizer deal as a positive step because it removes the threat of 100% tariffs and provides clarity. The MFN pricing is limited to Medicaid for now, which is less concerning than a broader expansion to Medicare.
• Bullish on Pfizer: He is bullish on Pfizer due to its strong and safe dividend, cost discipline, and a good obesity play acquisition (Seagen). He believes the CFO, Dave Denton, is a strong operator.
• Bullish on Gilead: He is bullish on Gilead, highlighting its strong HIV market, innovation in longer-acting prevention products, growing oncology business, and high-science cell therapy assets. He also notes their cost discipline and growing dividend.
• Obesity Drug Impact: He acknowledges the importance of obesity drugs (like those from Lilly and Pfizer) but notes that Gilead is not an obesity play, which he sees as a positive for diversification. He also mentions the potential, though not yet widely commented on, impact of obesity drugs on the packaged food market.
• Government Shutdown Impact: He points out that the FDA's functioning is halted during the shutdown, which can slow down drug approvals (e.g., for Eli Lilly's Zepbound).

Conclusion

The podcast concludes with a cautiously optimistic outlook on the pharmaceutical sector due to recent developments that have reduced uncertainty. The government shutdown remains a concern, particularly for its impact on regulatory functions like the FDA. The importance of dividends is underscored, with a warning against chasing excessively high yields. The discussion highlights the intricate nature of drug pricing and the ongoing political and economic factors influencing the healthcare and broader market landscapes.