How to build a defensive 5 stock healthcare portfolio

Do you consider risk in your portfolio construction? Get some help in this article and increase your chances of better risk-adjusted returns in the future.

| More on:
a woman

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

When thinking of high risk and high reward investments, the healthcare sector is one that immediately comes to mind.

It is home to a range of companies from extremely profitable global giants, such as biotherapeutics company CSL Limited (ASX: CSL) with a market capitalisation around $40 billion, down to micro cap minnows which may never turn a profit, like Prana Biotechnology Limited (ASX: PBT) which has a market cap of $70 million.

The potential for rapid growth in this defensive industry is enticing, but you must understand the risks and structure your portfolio accordingly.

The lower-risk approach

The easiest way to minimise risk in this sector is to invest only in companies that are already profitable with favourable outlooks. Companies like CSL, Cochlear Limited (ASX: COH) and ResMed Inc. (CHESS) (ASX: RMD) are excellent examples.

This approach might not be the most exciting strategy, but it can be extremely profitable. CSL, Cochlear and ResMed delivered an average 10-year total shareholder return of 24.1%, 11.5% and 11.8% respectively. An equally weighted portfolio (33% of each company) would have returned 15.8% compounded over the last 10 years!

A higher risk but higher potential reward portfolio

Investors chasing blue sky potential and quick returns are likely to buy into earlier stage biotech companies, hoping to find the next Sirtex Medical Limited (ASX: SRX) which has gained 250% during the past 3 years.

If this sounds like you, a quick way to reduce your risk is to build a structured healthcare/biotech portfolio that allocates between core, growth and speculative stocks. An example 5 stock portfolio could look like this:

Core stocks (portfolio allocation = 50% – 70%)

The core stocks should consist of large successful companies that will provide a solid base for long-term returns, while helping preserve capital during any market conditions.

1. Cochlear is a global biotech leader and pioneer of the bionic ear. The business provides a higher quality of life for people and demand for its hearing products will continue to grow in the future.

2. CSL is a global speciality biotherapeutics company that develops and delivers innovative biotherapies including blood plasma products and vaccines.

Growth stocks (portfolio allocation = 20% – 40%)

The growth stocks within the portfolio should be profitable businesses that are smaller and have the potential for higher growth compared to the core stocks.

3. Sirtex Medical is an emerging global leader in cancer treatment and its primary commercialised product is a targeted radioactive treatment for liver cancer called SIR-Spheres. The future looks bright with sales of SIR-Spheres increasing every year for more than a decade.

4. Medical Developments International (ASX: MVP) is a specialised healthcare company and the only global producer of Penthrox – an inhaler currently used to treat pain in emergency situations. Medical Developments is rapidly gaining approval to sell Penthrox around the globe and has a large growth runway in front of it.

Speculative stocks (portfolio allocation = 0% – 10%)

Speculative stocks are usually unprofitable but have significant potential if all of the stars align. They should make up a tiny fraction of your total portfolio as the chances for a total loss of capital are extremely high.

5. Avita Medical Ltd (ASX: AVH) develops and distributes innovative products in regenerative medicine. Its main product is ReCell, which uses a small sample of skin to create a suspension fluid that improves healing for burns and other serious skin wounds.

Foolish takeaway

It is tempting to include speculative companies in your portfolio due to their blue sky potential, but achieving market-beating returns over time is often more about minimising losses than picking the next big biotech company.

This can be achieved by avoiding the speculative sector entirely and instead focusing your money on the "core" and "growth" sections of your portfolio which should provide consistent returns.

Of course, buying these companies at attractive prices and holding over 5-10 years is critical to achieving good returns. With shares of many healthcare companies trading near record highs, investors must be patient to buy into companies when building a portfolio.

Motley Fool contributor Mitch Sonogan owns shares of Cochlear Ltd., Medical Developments International Limited, and Sirtex Medical Limited. Unless otherwise noted, the author does not have a position in any stocks mentioned by the author in the comments below. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

More on ⏸️ Investing

Close up of baby looking puzzled
Retail Shares

What has happened to the Baby Bunting (ASX:BBN) share price this year?

It's been a volatile year so far for the Aussie nursery retailer. We take a closer look

Read more »

woman holds sign saying 'we need change' at climate change protest
ETFs

3 ASX ETFs that invest in companies fighting climate change

If you want to shift some of your investments into more ethical companies, exchange-traded funds can offer a good option

Read more »

a jewellery store attendant stands at a cabinet displaying opulent necklaces and earrings featuring diamonds and precious stones.
⏸️ Investing

The Michael Hill (ASX: MHJ) share price poised for growth

Investors will be keeping an eye on the Michael Hill International Limited (ASX: MHJ) share price today. The keen interest…

Read more »

ASX shares buy unstoppable asx share price represented by man in superman cape pointing skyward
⏸️ Investing

The Atomos (ASX:AMS) share price is up 15% in a week

The Atomos (ASX: AMS) share price has surged 15% this week. Let's look at what's ahead as the company build…

Read more »

Two people in suits arm wrestle on a black and white chess board.
Retail Shares

How does the Temple & Webster (ASX:TPW) share price stack up against Nick Scali (ASX:NCK)?

How does the Temple & Webster (ASX: TPW) share price stack up against rival furniture retailer Nick Scali Limited (ASX:…

Read more »

A medical researcher works on a bichip, indicating share price movement in ASX tech companies
Healthcare Shares

The Aroa (ASX:ARX) share price has surged 60% since its IPO

The Aroa (ASX:ARX) share price has surged 60% since the Polynovo (ASX: PNV) competitor listed on the ASX in July.…

Read more »

asx investor daydreaming about US shares
⏸️ How to Invest

How to buy US shares from Australia right now

If you have been wondering how to buy US shares from Australia to gain exposure from the highly topical market,…

Read more »

⏸️ Investing

Why Fox (NASDAQ:FOX) might hurt News Corp (ASX:NWS) shareholders

News Corporation (ASX: NWS) might be facing some existential threats from its American cousins over the riots on 6 January

Read more »