3 Health Care Stocks Wall Street Is Buying

Playing follow the leader is often a good way to generate outsized returns in the market. But if you aren't sure why Wall Street is buying a certain stock, you may find yourself following them on their rare mistake.

So with that in mind, here's my take on why Wall Street is piling into these three health-care stocks.

Envision Healthcare Holdings is the top health care pick by Wall Street this year, after institutions have increased their holdings by 44% year to date. So why is Wall Street enamored with Envision Healthcare? First off, Envision is a highly diversified medical service provider, and as such, the company is positioned to actually benefit from the coming changes in health coverage next year. Specifically, Envision owns Evolution Health, which specializes in caring for chronically ill patients that will receive broader coverage under the Affordable Care Act.

Most importantly, Envision has been an absolute cash cow of late, increasing revenues by 16.5% last quarter compared to a year ago. In sum, the company is generating nearly $4 billion in revenues per year, and looks to grow earnings another 80% next year. If that projection turns out to be even close to correct, Envision should blow away its peers in terms of earnings. So you may want to dig deeper into Envision.

Opko Health is also being gobbled up by Wall Street this year, with a 42% increase in institutional holdings. Even more impressive is the fact that insiders have increased their holdings by over 200% this year. So insiders and many on Wall Street appear to hold a similar rosy outlook for the company going forward

Yet, there is considerable debate over Opko's valuation. With a market cap currently exceeding $3 billion and revenues that will only barely top $100 million this year, it's not hard to understand why. In short, there is a major discrepancy between Opko's current valuation and its underlying business.

Looking ahead, Opko could possibly bridge this valuation gap next year by increasing revenues through a diversity of new products, such as its next generation prostate cancer screener 4K Score. That said, I don't like investing in stocks that are trading on potential, and believe fellow Fools would be wise to avoid following Wall Street's lead on this one.

Taro Pharmaceutical Industries takes third place in Wall Street's heart this year, after institutions increased their holdings by a respectable 17%. And Taro shares have doubled in price for the Street's troubles.

Even so, institutions have still only taken a tiny stake in this specialist biopharma company, holding a measly 6.8% of outstanding shares. With Taro nearly doubling its sales by 27% to $205 million last quarter compared to a year ago, and announcing what amounts to a share buyback program, I'm surprised the Street hasn't taken a larger position in Taro. Moreover, the company currently has twenty products under regulatory review at the FDA, giving Taro numerous shots on goal next year.

Although Taro is only expected to grow earnings by 7% next year, I am a fan of its buyback program, its commercial portfolio, and its impressive array of drug candidates. As such, you might want to keep tabs on this one.

Foolish takeaways
Going with the crowd can sometimes be a good idea when investing, especially when mimicking tried and true all-star investors. And following Wall Street on its top three health care picks this year would have more than doubled your money in each case. Yet, I believe there are clear and present dangers to this strategy. In the case of Opko Health, Wall Street has created a valuation gap that has yet to be filled by the company's various clinical candidates. My take is that this discrepancy may cause Opko to be a laggard in the sector going forward.

By the same token, a peak into Wall Street's cup boards does reveal the gems of Envision Healthcare Holdings and Taro Pharmaceuticals -- both of which look like they will outperform again next year. So I do think its worth taking a look at what Wall Street is buying, but it's never a good idea to follow them blindly when making investing decisions.

The article 3 Health Care Stocks Wall Street Is Buying originally appeared on Fool.com.

George Budwell has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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