Pharma ETFs On The Move Again (IHE, PJP, PPH, ACT, FRX)

First it was the biotech stocks, now the large pharmaceuticals are getting in on the act.

The two sectors have been attracting money all year and were barely phased by the markets largest pullback in months. The combination of an optimistic view on the pipeline of drugs and an increase in M&A activity has been propelling the related ETFs to new all-time highs.

On Tuesday a $25 billion deal was announced that has Actavis ACT buying Forest Laboratories FRX in both cash and equity. FRX soared 28 percent on the takeover announcement and the acquirer also had a solid day, gaining five percent. The deal was just one of several that have been announced in the last few months as consolidation has become a major theme in the health care sector.

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Attempting to pick the next takeover candidate may be fun for investors but in reality the odds of being successful is not high. A better option is to look to the related ETFs that offer investors a basket of stocks in the sector with potentially the takeover candidate as a holding.

The iShares U.S. Pharmaceuticals ETF IHE is a basket of 36 stocks that was up three percent yesterday as it closed at a new all-time high. Over the last 12 months the ETF has nearly doubled the performance of the S&P 500 with a gain of 41 percent. The ETF’s seventh largest holding is ACT, as FRX is now number eight.

The ETF’s top holding is Johnson & Johnson JNJ with an allocation of 11 percent, making the portfolio top heavy, but it has not held it back from outperforming.

When comparing IHE to its peers it falls in the middle as far as performance over the last 12 months. The Market Vectors Pharmaceutical ETF PPH is up 36 percent and the PowerShares Dynamic Pharmaceuticals ETF PJP is up a whopping 57 percent.

When considering adding any of the pharmaceutical ETFs to a portfolio at this point the key will be patience. Chasing an ETF or a stock at an all-time high is never the best strategy. IHE pulled back a healthy and quick 5 percent in January and instead of running away from the weakness, the best strategy is to use the discounted price to begin to build a position. The next support level on IHE is at the $126 area and investors that are able to exercise patience will be able to buy the ETF at a lower entry price, thus resulting in a better reward-to-risk setup.