The iShares U.S. Pharmaceuticals ETF (IHE) recorded stronger performance in the past one- and five-year time frames. Over the past year alone, IHE returned 55%, significantly outpacing the Health Care Select Sector SPDR Fund (XLV), which offers a broader healthcare sector investment at a more competitive price. Both funds are popular among investors, but they differ in their approach to portfolio construction and cost structures.
Portfolio concentration and performance
IHE’s strategy centers on pharmaceutical companies, holding a total of 56 stocks in the sector. Its largest investments, including Johnson & Johnson and Eli Lilly, together account for nearly 50% of the fund’s portfolio. This targeted approach has helped IHE deliver strong returns as pharmaceutical stocks have seen increased demand in recent times. Focused exposure to drugmakers allows IHE to capitalize more fully on their gains.
In contrast, XLV spreads its assets across the broader healthcare sector, holding 60 stocks that include medical devices, biotech firms, and health insurers. Its three biggest holdings—Eli Lilly, Johnson & Johnson, and AbbVie—make up nearly 35% of the fund. This offers more variety than IHE but still means the performance of a few major companies plays a large role in shaping returns.
Risk and return trade-off for investors
A concentrated fund like IHE benefits when the pharmaceutical industry is performing well, as has been the case in recent months. However, the same focus also exposes investors to higher risks during downturns. Challenges like patent expirations, pressure to lower drug prices, and regulatory changes could hurt top holdings, leading to sharper losses than might be seen in a more diversified fund.
XLV has a much lower expense ratio of 0.08%, in contrast to IHE’s 0.38%, making it a more affordable option for those wanting steady healthcare exposure without placing too much emphasis on pharmaceuticals alone. For long-term investors, the lower cost and broader portfolio of XLV may provide greater stability, especially when the drug industry faces headwinds.
Diversification remains key in fund selection
While XLV is often labeled as diversified, its reliance on top three holdings still represents a significant chunk of the fund. This means a sudden decline in one of these large firms could significantly impact the fund’s overall returns. On the other hand, IHE’s focus is even narrower, with its 56-stock portfolio fully dedicated to pharmaceuticals. This strategy carries more risk but also offers greater upside if drugmakers keep outperforming other sectors.
Investors should carefully evaluate their risk tolerance and investment goals when choosing between the two funds. XLV is better suited for those who want a balanced healthcare exposure without relying heavily on the drug industry’s performance. IHE, meanwhile, may appeal to those confident in the long-term prospects of U.S. pharmaceutical companies and willing to accept higher volatility in exchange for potentially stronger returns.