Obamacare Winners: 3 Health Insurers Set to Beat Q4 Earnings

The year 2014 turned out to be a good one for the health insurance sector in spite of fears that the healthcare reform would make it tough on the industry. Not only did many health insurers meet or beat earnings, they even outperformed the S&P 500.

The industry has been trying out ways to adapt to Obamacare, which was passed in 2010. And in spite of several provisions, either lenient or stringent, earnings from most of the players since the reform have remained strong. Health insurers, who were once the most fervent critics of Obamacare, are now its strongest supporters. The rollout of numerous healthcare reforms has changed the face of the industry and insurers are extending cooperation whole hog.

One of the most significant developments witnessed by the insurers was an overall rise in enrollment largely made possible by the launch of public health insurance exchanges in October 2013. The expansion of Medicaid also turned out to be a boon for the health insurance industry. The exchanges have brought a big business for insurers like Aetna Inc. (AET - Analyst Report) and Anthem Inc. (ANTM -Analyst Report) (formerly known as WellPoint), which enrolled customers in flocks in 2014. The trend continues this year, too.

Apart from Public Exchanges, we also expect healthy top-line growth in other segments such as Medicare Advantage and Medicaid. In Medicare Advantage, baby boomers reaching 65 should offer a secular growth tailwind, while seniors continue to prefer the private Medicare Advantage product over the government-run fee-for-service offering.

Managed Medicaid should to see growth tailwinds from continued Medicaid expansion from the Affordable Care Act (ACA), and privatization of state Medicaid contracts particularly with complex care population across the aged, blind and disabled, long-term care and the dual-eligibles.

Q4 Flashback

Driven by strong enrollment, Anthem surprised investors by raising its financial guidance for 2014 for the fifth time. Anthem upped its full-year 2014 adjusted net income to $8.85 per share, up from a forecast of $8.75 to $8.85 per share issued in October 2014.

Aetna also raised its membership guidance for 2014 last week from the originally promulgated 23.4 million. The insurer also said that it expects 2014 adjusted earnings to hit the high end of its previous forecast of $6.60 to $6.70 per share.

Moreover, the flu season in the US, which starts in October and continues till May, affects insurer’s fourth-quarter earnings, when the flu season is at its peak. High flu incidence compels insurers to make claim payments thus eroding their earnings. Though the reports so far say that the 2014—2015 flu season so far is bad, it has not turned out as worse as expected by the health insurers. This will likely keep claim payments at bay and shield the margins.

Insurers earnings are also expected to see accretion from their international operations. Some of the players—Aetna, Cigna Corp. (CI), UnitedHealth Group Inc. (UNH - Analyst Report)—have extended their business beyond the national boundaries in the wake of stringent regulations back home.

Moreover, strong balance sheets with low leverage and attractive organic cash flow generation, along with excess capital in the form of statutory reserves and parent cash continue to make this an attractive sector.

Overall, the health insurance scenario looks supportive for its players. Thus, it may be a good idea to look at some companies in the health insurance sector that have the potential to beat earnings in their upcoming releases. These stocks are well positioned in today’s market, and could see considerable upside riding on the aforementioned trends. An earnings beat should help these stocks gain investor confidence and show a favorable price movement.

How to Pick?

Given a large number of industry participants, pinpointing stocks that have the potential to beat estimates could appear to be a daunting task. But our proprietary methodology makes it fairly simple.

One way to narrow down the list of choices this earnings season is by looking at stocks that have the combination of a favorable Zacks Rank #1 (Strong Buy), #2 (Buy) or #3 (Hold)—and a positive Zacks Earnings ESP. Earnings ESP is our proprietary methodology for identifying stocks that have high chances of surprising in their next earnings announcement. It shows the percentage difference between the Most Accurate estimate and the Zacks Consensus Estimate.

Our research shows that for stocks with this combination, the chance of a positive earnings surprise is as high as 70%.

Below are 3 health insurance stocks that we believe are best positioned to stand out this earnings season.

Anthem Inc. has a Zacks Rank #2 and an Earnings ESP of +1.16%. The Zacks Consensus Estimate for the fourth quarter stands at $1.72 per share. Anthem will announce fourth-quarter and full-year 2014 results before the opening bell on Jan 28.

Another stock worth considering is UnitedHealth Group Inc. with a Zacks Rank #2 and an Earnings ESP of +0.67%. The Zacks Consensus Estimate for the fourth quarter stands at $1.50 per share. UnitedHealth was set to announce fourth-quarter and full-year 2014 results this week.

Humana Inc. (HUM - Analyst Report) has a Zacks Rank #2 and an Earnings ESP of +0.86%. The Zacks Consensus Estimate for the fourth quarter stands at $1.16 per share. Humana will announce fourth-quarter and full-year results before the opening bell on Feb 4.

Moving Forward

Though the players are strongly poised now, investors eyeing a long-term investment perspective should note that the Supreme Court will soon hear the case challenging the subsidies made available by the ACA. If the court rules in favor of the Act’s opponents, President Obama’s signature achievement may be seriously threatened, causing a sharp decline in subsidized enrollment, placing health insurers in a difficult position. However, until such a situation arises, these earnings plays ensure gains for investor.