Some medical breakthroughs come from unexpected sources.

The origins of new weight-loss drugs such as Ozempic—known in the industry as GLP-1s—can be traced back to 2005, when they were introduced as a treatment for diabetes. Two decades later, these drugs have seemingly burst onto the medical scene, gaining notoriety for their ability to help people lose weight and the potential implications for a variety of other business sectors.

This “Ozempic effect” serves as an important lesson for investors: Healthcare innovations often have a cascading impact on the economy and their portfolios. With the healthcare industry working overtime on the next big breakthrough, identifying future winners in the medical field will lead investors to new opportunities.

“One of the most amazing things about healthcare, and there’s really two spaces in the market that I can think of that are similar in this regard, healthcare and tech, is that there's always something new,” said Dan Matviyenko, Managing Director and Portfolio Manager for Jennison’s healthcare strategies. “A company simply cannot stand still. They have to innovate, they have to create new products, they have to address markets that haven’t been addressed or addressed poorly.”

With the development of weight-loss drugs and other novel treatments moving at a brisk pace, PGIM’s The Outthinking Investor podcast has taken a deep dive into the future of innovations and its impact beyond medical field, collecting insights from experts in the healthcare space.

Tim Dall, a health economist and Executive Director at GlobalData, noted that studies suggest the proper treatment of obesity alone can improve US GDP by 1-2%. As GLP-1s have shown, new drugs are coming to market faster as companies tap additional resources—both money and technology—to streamline the R&D process.

“There’s a financial incentive to quickly develop these medications, test them, get them on the market, so that they can more quickly recoup the cost and generate the financials before the competition enters the market,” Dall added.

It will be crucial for investors to take stock of healthcare’s ripple effect as the sector rapidly evolves. In consumer goods, the rise of weight-loss drugs could create new demand for recreational hobbies and sports, gym equipment and healthy foods, according to Scott Swanson, Principal and Credit Analyst at PGIM Fixed Income.

“People with obesity spend just under $2,000 more a year on medical costs, and people with severe obesity spend about $3,000 more,” Swanson said. “These savings could be added back to a household budget benefiting other areas in the consumer sector. While most people will focus on the negatives on the food categories, overall, it could be a benefit to many other types of food and consumer names.”

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>> In the late 1700s, a French doctor and chemist became the first known person to identify and isolate cholesterol in gallstones. But it wasn't until the 1950s that the connection between cholesterol and heart disease was discovered in a groundbreaking study at the University of California at Berkeley. Finally, in 1987, the first statin was approved by the US Food and Drug Administration, ultimately changing the protocol for treating heart disease. But when statins were introduced, private and public health care plans doubted it was affordable to provide access to the broad public. Increased competition and generic options eventually made it affordable for widespread use, and 47 million people now take statins daily in the US alone. The result: longer lifespans, higher quality of life, and lower costs overall. Today, that pattern may be playing out with the class of drugs known as GLP-1s, such as Ozempic. Introduced as a treatment for diabetes in 2005, these drugs were later found to be very effective for rapid yet safe weight loss. As a result, demand has surged. With an increasing segment of the population struggling to lose weight, GLP-1s could change the treatment protocol for weight management. For investors, there's an important lesson to be learned from the so-called Ozempic effect. The impact of weight loss drugs may be felt well beyond the healthcare sector, with implications stretching across financial markets and the overall economy. What does that tell us about the importance of other innovations across the essential healthcare sector? With new breakthroughs likely on the horizon, how can investors capture the broad set of opportunities that will emerge? To understand today's investment landscape, it's important to know how we got here. This is the Outthinking Investor, a podcast from PGIM that examines the past, the present-day opportunities, and the future possibilities across global capital markets. In this episode, three experts consider the potential economic and investment impacts of healthcare innovations such as GLP-1s. Tim Dall is a health economist and executive director at GlobalData plc. Daniel Matviyenko is a portfolio manager at Jennison's Associates. Scott Swanson is a credit analyst for PGIM Fixed Income. Although these drugs have been available for nearly 20 years, it's only recently that interest has surged. Is the demand for GLP-1s a fad, or is it sustainable? Dan Matviyenko sees massive potential.

>> Our belief is that over the next three to five years, GLPs as a class will become the largest pharmaceutical the world has ever seen. Demand is being driven and will continue to be driven by type 2 diabetics, as well as by people looking to lose weight overall. We follow the GLP class for over 15 years, so it's not a new set of therapies. In addition to weight loss and all the obvious ones which we read about in the press, we do believe then that the data has shown that there's other benefits from GLPs, be it on heart health, on, you know, things like sleep apnea, and so on and so forth. So our view is that it's a multifactorial drug, and the applications are fairly wide open. Let's talk about the United States, for example. If we do believe that 40% of the population is obese, by definition, these people could all benefit from this therapy. And the beauty of GLP-1s is that the side effect profile is fairly benign. So if you have a fairly benign side effect profile and you have all these positive impacts on cardiovascular health, on weight loss, on mood, on what have you, so by definition, this could be a monstrous class of drug.

>> It may take some time to get to the tipping point on these drugs. Tim Dall explains.

>> I think the increase in demand for the GLP-1s and anti-obesity medications in general is sustainable over time. It will grow. I still think we're maybe five to 10 years away from this really taking off, and it's mainly a financial consideration that over the next five to 10 years, we'll see more competition in the market. Some of the medications for weight loss that were approved originally for treating diabetes will go off exclusivity and generics will enter the market. And because physicians will have the opportunity to prescribe those off-label, I think that the financial considerations will make it much more likely that people will be accessing these medications.

>> This would require that the supply of GLP-1s expands considerably, whereas even current demand is not being met.

>> There's been concern in news media around just a shortage of GLP-1s in general, and much of this is in the context of people with diabetes who are using these medications are having trouble getting access to it because of supply constraints, that some physicians are prescribing these off-label simply to treat obesity, and so, there's less drugs available for people with diabetes who need them. I think that these supply issues are being worked out, and it's more of a kind of a short-term issue that the market just kind of exploded and the interest exploded, but over time, the production will ramp up, and I think this is just a short-term issue.

>> Much of the press coverage overall has focused on the potential negative spillover effects. For example, a global beverage company considering a potential decline in demand or a large retail chain looking at shifts in consumer behavior. According to Scott Swanson, we should take this with a grain of salt.

>> GLP-1s are successful in helping people lose weight. We can see multiple changes in these particular end markets. I think most people think of the negatives here, such as less food consumption affecting food producers, but it may not be as drastic as it really appears. You know, most bariatric professionals recommend a caloric reduction of about 500 calories a day, which isn't much, but we forget about the positives here. This could lead to food innovation or greater consumption in other categories. For example, you know, muscle loss is associated with taking GLP-1s. We could see more consumption of lean proteins, or product innovation for packaged food companies, such as protein-enriched foods, or the introduction of more better-for-you snacks.

>> These drugs help with weight loss by suppressing appetite so that people eat less overall, but they also tend to change taste for food.

>> So some foods that before might have tasted very good to you, now they just don't taste as well. If a person is consuming lower amounts of food and their tastes differ, then that can have implications for the food industry. One area for growth is just what we might call functional foods, that if you're eating less, then the food that you eat needs to be of better quality in terms of the nutrient value to offset the fact that you're eating less.

>> Staying well hydrated is also an important part of the treatment with these drugs, so we could also see new beverage products. There could also be broader spillover effects beyond food and beverage.

>> As people lose weight, you'd probably expect to see more purchases of clothing. We could see more gym memberships or gym equipment sales. And as people become more active, people will start investing in new hobbies, all which could drive increased purchases of consumer products. The other thing I would mention is that people with obesity spend just under $2,000 more a year on medical costs, and people with severe obesity spend about $3,000 more. So these savings could be added back to a household budget, benefiting other areas in the consumer sector. So while most people will focus on the negatives on the food categories, overall, it could be a benefit to many other types of food and consumer names. This could be a great start for people struggling with obesity, but lifestyle changes will have to be made to get the full benefit while taking the medications and once off the medications. You know, and we know behaviors are hard to change, so that's why we think even longer term, the overall effect on food volumes will be minimal.

>> One known unknown is the potential impact of duration. It's thought that some people might need to continue using the drug long-term or even for life. But that's not how the drugs were researched and reviewed.

>> Most of the clinical trials have only been taking place for short periods of time, maybe a couple of years at most. And our understanding as of now is that if a person starts on a GLP-1, they might need to continue that medication over their lifetime to maintain the benefits. And of course, we haven't had clinical trials or real-world evidence lasting long enough to understand what are the implications by 10, 15, 20 years down the road. So that will be an area of continued research.

>> We are also seeing more stories in the press about how these drugs moderate addictive behaviors, such as tobacco or alcohol use. I think much of that is anecdotal information that people that are taking the GLP-1s for their diabetes and for weight loss in general, they are noticing that they have less desire to smoke or consume alcohol, and there could be some other long-term benefits in that respect. It might be a while before there's actual clinical trials taking place that would allow those medications to go on the market specifically to treat those types of addictions. But right now, it's just anecdotes, but it's a growing number of anecdotes that suggest that maybe there really is something there. One point that would be difficult to overstate is the potential cost savings related to obesity to the broad economy.

>> A study we just released indicates that across the US industry, obesity contributes to over $400 billion per year in costs. The largest expense is just higher medical costs for employees and their dependents. But other significant costs are what we call presentism because of the health effects that obesity contributes to. People might show up for work and their productivity is lower. And then we've got absenteeism, which is, you know, you don't even show up for work because of health reasons. And then there's other factors such as higher costs for disability and for workers' compensation. And then when you look at other factors outside of industry like Medicare and Medicaid, a country like the US is paying between 2% and 3% of their gross domestic product just for obesity.

>> These estimates are based on the assumption of universal access to GLP-1s for obesity and weight loss, which is far from where we stand today. But the numbers are staggering.

>> So our studies and other studies that have been published suggest that with proper treatment of obesity, we can improve our country's gross domestic product by 1% to 2%. Now this is going to vary across industry. For example, about 38% of people in the mining industry have obesity, whereas when you look at something like the professional and business services industry, only 22% have obesity. So the health effects will differ by industry. But when we get to some of the spillover effects, there's many other considerations. For example, in the health industry, you've got just the general benefits of improved health, lower onset of type 2 diabetes, lower onset of cardiovascular disease, musculoskeletal conditions, certain types of cancers. And that will have an impact on those particular therapeutic areas. But when we think about a person's lifetime, often what will happen is if you can reduce their obesity or treat their obesity, they will live longer. Or some of the conditions that they might have onset for, like type 2 diabetes, it's delayed. It'll happen eventually, but it might be delayed for five or 10 years. And so this will cause a shift in healthcare use and spending. Actually, what we found is that preventive measures like reducing obesity in the long term can actually increase a country's healthcare spending simply because people live longer. Cost is obviously important, but if a person can improve their quality of life and live longer, I think that from a societal perspective, and clearly from an individual perspective, that's a positive thing.

>> Insurance coverage of GLP-1s will likely be on a case-by-case basis until prices come down significantly. Just as usage will be more individual than initially expected, workforce profiles are also more distinctive. Some employers believe it's too costly to provide access for weight loss. Others provide it across the board. Some have coverage starting at a minimum amount of body fat. Others are applying lifetime cost caps. Another workforce-related issue is that there are aspects of obesity that tend to perpetuate inequalities, for example, in terms of race, gender, age, and socioeconomic status.

>> What we find in our research is that people with obesity are less likely to be in the workforce, and for men with obesity, their reduction in workforce participation declined by about 7% compared to men with healthy weight. But for women, it's about a 20% decline in odds of working. That is, the negative workforce impact of obesity is about three times larger for women than it is for men. Also, our research finds that obesity disproportionately affects women in terms of their earnings. Women with obesity earn about 9% less than women with healthy weight, but we see no impact for men. We also see in terms of the prevalence of obesity, it's much higher among minority populations. And so when we think about the economic implications of obesity, it contributes to greater health disparities, and those health disparities contribute to greater economic disparities. It also can disproportionately affect lower-income households versus older-income households, and so that can have implications again for workforce participation, for the resources they have for purchasing goods and services.

>> From an investment portfolio perspective, GLP-1s are a striking example of how a single innovation in healthcare can have broad and significant spillover effects across industries and sectors.

>> It actually goes to the core of how we look at the sector. We like to talk about healthcare as a spiderweb. So in this GLP-1 example, you know, an impact in one area of healthcare will have knockoff effects across the entire sector, not just in pharmaceuticals, but also in services and devices and so forth. So what does that mean for insulin manufacturers, for insulin delivery? What does it mean for companies that make the continuous glucose monitor that diabetics wear to see where their blood glucose levels are? Innovation in one part of the space can have large ramifications across the entire space very quickly.

>> We're already seeing some weight loss programs starting to incorporate GLP-1s alongside diet and behavior modification. With such broad and rapid industry and sector changes, are the financial markets experiencing additional volatility from direct or knock-on effects?

>> So short-term, GLP-1s, we saw a really negative effect in the equity markets, you know, in early October when the CEO of Walmart stated that shoppers taking Ozempic were buying slightly less calories. You know, we saw food producers drop on average about 7% the equity from the end of September to mid-October. Fast-food restaurants dropped just under 7%. This occurred while the S&P increased just under 2% over the same time period. And this was a hot topic on third-quarter earnings calls. Analysts were really leaning in on these questions as to what food producers were seeing in terms of demand and their reaction and what they should be doing too to offset some of this. Now that we look at it since mid-October, food categories are up high single digits. Fast food is up mid-teens. Supermarkets are up low teens. All this while, the S&P is up about mid-teens.

>> We've had a lot of volatility in various medical device companies and even managed care. Those valuations moved around a lot. Over time, especially at the end of 2023, I think people got a better sense for what the world would look like. I think they came to our view, and this is the view we've held all along, is that yes, this is an amazing, amazing therapy, but it's not end and to be all. So, unfortunately, people will progress and type 2 diabetic will progress. The impact on type 1 population is negligible, if any. And unfortunately, for the patients, you know, they will need, you know, these other therapies. They'll need these other medical devices and so forth. But there was a point in time when there was significant valuation compression, and we as a fund, we took advantage of that.

>> After a difficult year for the healthcare sector in 2023, what's the outlook for healthcare for 2024 and beyond?

>> We do think multiple expansion is going to happen within healthcare, and healthcare valuations will catch up. So even though historically, election years have been bad for the sector, I think there's enough out there to think that it's actually fairly bullish.

>> A key component of the investment decision in healthcare is speed to market for these drugs and pharmaceuticals generally.

>> The time to develop new drugs does seem to be speeding up.

>> Part of this is just there's more computing resources. There's just more resources in general to develop new pharmaceuticals and new innovations. I think also there's a financial component of time sensitivity. Before when pharmaceutical companies, for example, developed a new medication, they would have a certain time limit or exclusivity before the generics and competition entered the market. And because this is speeding up, there's a more financial incentive to quickly develop these medications, test them, get them on the market so that they can more quickly recoup the cost and generate the financials before the competition enters the market.

>> Technology has had an impact here. There are high hopes for how big data analytics and artificial intelligence might be applied to boost healthcare innovation.

>> One of the most amazing things about healthcare -- and there's really two spaces in the market that I can think of that are similar in this regard: healthcare and tech -- is that there's always something new. So a company simply cannot stand still. They have to innovate. They have to create new products. They have to address markets that haven't been addressed or addressed poorly. That's how you get paid. That's how you get value for your dollar. Obviously, the difference between healthcare and tech is that in tech, it's a consumer-driven market, and it's easier to get to the end market than it is in healthcare. But ultimately, what we look for and what gets us really excited is: Are those innovations that not only look cool on paper but actually do two things: one, improve the human condition; and then two, bend the cost curve in a meaningful and useful way -- So we want to own stocks of those companies where it's true innovation, where, as we look out three years, this company has created a market or changed an existing market by improving the outcomes for the patients while at the same time improving the cost profile of that therapy. And that's where the most M&A has historically and we think will continue to take place. So if you look at larger pharmaceutical companies, larger biotech companies, a lot of them are facing patent cliffs over the next five years. So as their revenues come off patent and run out in essence, we think they will continue to do significant deals in the space, then small and [inaudible] biotech names -- the small and [inaudible] therapeutic names will benefit from this trend.

>> The healthcare sector continues to foster great opportunity for society and investors.

>> It's an exciting time for obesity treatment. It's the best of times because there's just so much innovation going on. I guess it's also the worst of times because obesity is at its highest prevalence that it has ever been, I think, in the history of mankind. And there's also substantial disparities in access to care. But on the optimistic side, there's a lot of interesting things going on in terms of research and improved access to care that I think will have just enormous benefits for society over time.

>> If the impact of GLP-1 drugs is anything like the dramatic effect that statins had on healthcare, actuaries will need to adjust their models for everything from healthcare insurance to retirement planning, from Medicare to Social Security. They might find that not only can we afford to provide broad coverage, but we also can't afford not to. Thanks to our experts, Tim Dall, Daniel Matviyenko, and Scott Swanson. The Outthinking Investor is a podcast from PGIM. Follow, subscribe, and if you like what you hear, go ahead and give us a review.