Contrarian Value Investing

Very few industries have been beaten down like the Health Care industry. The DJ Health Care Providers Index is down 21% in the past 6 months and down 15% in the past 3 months. There are various reasons the health care industry has sold off, but I think this is a classic example of an industry being oversold.
I have been watching two stocks in this industry, WellPoint (WLP) and United Healthgroup (UNH) but ultimately went with UNH. First, both are outstanding business with a great history of creating shareholder value. Both are attractively priced and an intelligent investor will be well off 3-5 years from now. Now, to the numbers. UNH has a bigger market cap than WLP, about 13 billion. But, both balance sheets are almost identical. Now, although both companies have near identical balance sheets, UNH is producing almost 3 billion more EBITDA. Thus, its ROE and ROA are superior to WellPoint’s.
As I was doing a more research, I found this Morningstar about the market’s most mispriced stocks , which focuses on the healthcare industry and states the following about UNH and WLP.

The market has vastly different views on two segments of the health benefits industry, and we think it got it wrong on both accounts. While pharmacy benefit managers Express Scripts (NasdaqGS:ESRX - News) and Medco Health Solutions (NYSE:MHS - News) carry rich 30-times-earnings multiples, managed-care organizations UnitedHealth Group (NYSE:UNH - News) and WellPoint (NYSE:WLP - News) trade for a lowly 10 times earnings. In our opinion, not only are UnitedHealth and WellPoint deeply undervalued, they are also moat-worthy businesses with lasting competitive advantages.

A confluence of events has caused UnitedHealth and WellPoint to trade at their lowest price/earnings multiples in a decade, and we think the market is overly pessimistic. Uncertainty surrounding the 2008 presidential election, a worse-than-normal flu season, claims that Medicare is overpaying private plans, and signs of deteriorating medical loss ratios (the percentage of premiums that are spent on medical costs) have all weighed on these stocks. We think pricing will remain rational between insurers and that healthy medical loss ratios will be maintained. In any case, we believe current prices more than compensate investors for these risks.

UNH and WLP are now trading at valuations not seen in a while (P/E <10) and thus provide a buying oppurturnity. Again, I had to sell stocks to buy UNH. The victims were USB, VNBC and KG.There is nothing wrong with USB. It is a matter of replacing a good opportunity with a better one. With VNBC, I simply lost confidence in its management. It is quite obvious management does not have their head on their shoulders and unfortunately, shareholders are paying the price. I have been following KG for quite a while now. This is a case where the qualitative side of the story is not as good as the quantitative. I am very confident about my analysis and Know UNH will provide a good return. I know Warren Buffett had/had a position in UNH, but I will have to look into it

UPDATE: Gurufocus.com has reported noted value investor Seth Klarman has put 11% of his portfolio in WellPoint (WLP)

Disclaimer: I own share in USB and UNH

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