It can be useful for ASX investors to examine their level of portfolio diversification ahead of earnings season.
Being too heavily concentrated in one stock or sector can negatively affect an investor's overall portfolio if there is an earnings surprise.
Over the past few months, certain ASX stocks have delivered strong performance to reach new all-time highs.
The most obvious example is the Commonwealth Bank of Australia (ASX: CBA). CBA peaked in June and is up nearly 20% for the year to date. This continues a two-year surge for the bank, up around 80% since July 2023. If you've held your CBA shares over those two years, chances are your portfolio allocation to CBA is much higher today.
Other recent strong share price performance examples include Life360 Inc (ASX: 360), Wisetech Global Ltd (ASX: WTC), and Boss Energy Ltd (ASX: BOE), which are all up more than 50% since 7 April.
Those invested in ASX index funds that track the S&P/ASX 200 Index (ASX: XJO) may believe they own a broadly diversified basket of stocks. However, there is a high amount of sector concentration.
As of 30 June, the financials sector represented 36% of the BetaShares Australia 200 ETF (ASX: A200). 25% of this was attributed to the big 4 banks alone.
A sizeable decline in the big 4 banks or the financial sector would have a material impact on the A200 ETF.
Heading into earnings season, investors may wish to improve their portfolio diversification and reallocate funds to sectors and stocks that are considered undervalued.
How can this be achieved?
Betting on the healthcare sector
Relative to financials and mining, the ASX healthcare sector is given a much lower weighting in the ASX 200 Index.
As of 30 June, it represented 9% of the A200 ETF.
The ASX 200 healthcare sector has also underperformed the benchmark index lately. The S&P/ASX 200 Health Care Index (ASX: XHJ) is down 3% for the year to date, while the ASX 200 Index has risen 6%. This suggests it could be undervalued.
Accordingly, the ASX 200 healthcare sector appears to be a good place to redeploy capital ahead of reporting season.
What to buy?
Pro Medicus vs CSL
The ASX healthcare sector is diverse in itself.
There are 163 healthcare sector stocks listed on ASX, that can be divided into two groups. Firstly, the healthcare equipment and services industry. And secondly, the pharmaceutics, biotechnology, and life sciences industry.
Pro Medicus Ltd (ASX: PME) and CSL Ltd (ASX: CSL) are two of Australia's greatest healthcare success stories.
But, which is the better investment today?
Recent history has panned out very differently for these two businesses.
Pro Medicus has increased by a staggering 1,278% over the past five years, while CSL shares have decreased by 7% over the same timeframe.
Since 7 April, Pro Medicus has demonstrated strong upward momentum, surging 85%. It may be tempting for investors to get on this bandwagon, hoping the stock will continue this trajectory.
But that would be a mistake, according to Macquarie Group Ltd (ASX: MQG) analysts.
The broker has assigned a neural rating and price target of $258.90 to Pro Medicus shares.
Meanwhile, an outperform rating and price target of $347.50 was assigned to CSL shares.
Therefore, according to Macquarie, investors looking to diversify their portfolio ahead of earnings season by buying ASX healthcare shares should choose CSL over Pro Medicus.
