The Long and Short
Humana selloff feels overdone
This material is a Marketing Communication and does not constitute Independent Investment Research.
Both equity shares and spreads in health insurance credits took a hit following the recent White House proposal to cap 2027 Medicare insurer rates well below expectations. None were hit harder than Humana (HUM: Baa2/BBB/BBB-) given its relatively large exposure to Medicare Advantage. Since the election, the Trump administration had seemed to take a more friendly approach to the health insurance industry, so the news caused a rapid repricing. Given the long road ahead and prospects for more measured outcomes, the initial reaction in HUM credit spreads seems overdone.
The market had expected the proposed Medicare rate to come in at approximately 5% to 6% rather than the proposed 0.09% increase for next year. Shares of HUM have dropped roughly 26% since the news broke. Meanwhile, credit spreads have widened by over 20 bp in the long-end of the curve over the past several days from the local tights (Exhibit 1). That compares with spread widening at investment grade peers of about 8 to 10 bp for CVS, 5 to 6 bp for UNH and ELV and 2 to 3 bp for CI.
The reaction in HUM pricing is not altogether surprising given its highly leveraged position to Medicare relative to peers. While HUM holds only the second highest market share of Medicare members at 5.8 million to UNH (8.4 million), it represents a far higher total than any of the names in the peer group. Medicare makes up about 74% of total membership with the vast majority of premiums earned with no group commercial or marketplace members. That compares with about 17% Medicare membership for UNH, 16% for CVS, 5% ELV and no significant membership for CI. As a result, some are calling for as much as a 75% hit to earnings at HUM in the first year if the measure were to be actually finalized.
Exhibit 1: Managed Care/Health Insurers – credit curve (BB or higher rated)
Source: Santander US Capital Markets LLC, Bloomber/TRACE BVAL g-spread indciations
The decision will not become final until the Centers for Medicare and Medicaid Services (CMS) makes the announcement in April, so there is a long road of lobbying and gamesmanship likely to play out in the months ahead. The approaching mid-term elections are likely to weigh heavily in the decision-making as the administration balances its desire to cut government spending against potential backlash from Medicare end users and donors alike. Given the propensity of the administration to make bold proposals versus the likelihood of following through, it seems like the market is relegating the likelihood to a coin flip. HUM bonds appear to pricing a fairly even split between its better-positioned investment grade peers and the few ‘BB’ entrants in the sector.
While the outcome feels binary and incredibly difficult to predict, consider the credit implications of a negative result in April. The company does not report fourth quarter earnings until February 11, at which time it seems likely HUM management will be pressed heavily on the potential fallout of a flat rate environment for 2027. That should provide a little more clarity on the expected impact on earnings and profit margins in the first year. Also consider the prospect of a potential course correction in the following year, which could limit the impact to several quarters before a more normal rate environment persists.
The rating agencies already took several swipes at HUM in the final months of 2025, which could limit future ratings fallout in the near-term. In November, S&P affirmed the holding company rating at ‘BBB’ and the operating company financial strength ratings at ‘A-‘ but took the outlook to negative from stable. The rating action reflected existing operating difficulties and expectation for margins to be pressured in the two years ahead. Fitch took a more aggressive stance, lowering the senior unsecured rating to ‘BBB-‘ from ‘BBB’, also largely reflecting margin compression. And while profitability remains in question with potential new legislation, capital adequacy remains stable at HUM. This should provide enough cushion to limit near-term rating impacts and present a reasonable downside of low-‘BBB’ or at worst crossover (‘BBB-/BB+’) ratings in a worst-case outcome for 2027 Medicare rates at the proposed rate increase of 0.09%.
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