Health care sector can be lucrative but at a cost

A typical health sciences mutual fund currently shows its 10-year average annual return to be more than 17 percent. By comparison, the S&P 500 stock index generated 10 percent for the same period.

What is it about a single industry segment that allows it to generate sustained profit through such a long period?

What’s baffling is the lack of customary volatility that generally accompanies a select industry fund. As a general rule, today’s winner will tend to be tomorrow’s loser sooner or later, but a sustained winner for 10 straight years is unheard of in my 50year experience.

The answer could lie in the questions raised by a retired friend, a former surgeon. In an effort to help a neighbor negotiate her way through a hip replacement, he gained an inside look at the costs associated with what has become a common, standard operation in this country.

To find out why the operation cost $112,000, he asked for a detailed list of all of the cost components — every dime that contributed to the total. What he discovered were mark-ups of as much as 600 percent for, as an example, the hip joint itself. Based on his own personal experience, he knows that the component costs are about $3,000 for the joint hardware — and at that price, the manufacturer is making a profit.

My friend badgered the hospital finance department (no small challenge) until he was able to obtain an itemized list of all the expenses charged to Medicare Part A for the operation. The hospital refused to show him what it paid for the supplies and services, but the list he showed me included figures such as $42,000 for what amounted to two hours in the operating room including anesthesia.

This hospital’s anesthesia services including the doctors themselves have recently been sold to a for-profit company in Florida that immediately doubled prices, according to my friend’s sources. The itemized list of four single-spaced pages includes tidbits such as a high-cost paper bed sheet and various drugs that can be purchased from CVS for about 20 percent of the price listed on the bill.

Our health care costs twice what other industrialized countries spend, so where did the theoretical virtues of free-market competition run amok? It’s simple. The user of the service is insulated from the entity paying the bill.

Hospital bills go to an insurance company that might make a half-hearted effort to negotiate costs. In the end, higher costs will result in higher premiums and higher insurance company profits. That increased premium is then paid by employers who howl that they can’t give raises because their cost of insurance just spiked. So, in the end, employees and unemployed or retired Americans are ultimately footing the bill with no leverage whatsoever, thanks to having no shopping inroad toward more cost-effective services.

To drive the point home, consider that hospitals and drug companies spend money on advertising — a wasted expense that contributes to higher premiums. So how much of our insurance premium is paying for the TV ad — that useless information that “helps” us choose our hospitals and

drugs? In Europe, these useless ads would be illegal.

As part of the “deal” to pass Medicare Part D, we citizens are barred from having our government negotiate prices. In Europe, by comparison, the government tells the drug industry that they can charge enough to make a 15 percent profit. They can charge more, but if they do, the government will allow cheap generic drugs to be sold on the same shelf.

It’s the drug company’s decision. Drugs, as a result, are cheaper in other countries, and everyone still makes money. Americans buying drugs online in Canada can save about 80 percent.

A cynical investor would make the decision that nothing was ever going to change in this ever-rising price spiral, so continuing to invest in health sciences mutual funds would make good sense.

This flies in the face

of Modern Portfolio theory, which would call for rebalancing investment styles and taking some chips off the table when a particular investment, once chosen as 10 percent of a portfolio and left untouched, has now increased to 20-25 percent thanks to those high annual returns compared with everything else. So, if you think what I would call “the politics of selfishness” is going to change for the better and shift the balance of power to the people’s interests, it’s time to rebalance.

If not, a heavy concentration in health sciences could continue to reward indefinitely. If they happen, those investment gains may offset the increased cost of your health care.