Top 2 Small Cap Healthcare Stocks to Buy Before Rate Cuts

Key Points

• As the healthcare sector booms in a hiring spree, small-cap stocks are set to see a new potential rally.
• Stanley Druckenmiller saw an opportunity in small caps in the coming cycle with potential rate cuts. Still, not all of them are made equal.
• Analysts see a collective double-digit upside in these names from where they sit today.

Will the market get interest rate cuts at all this year? That is the question that looms over most investors’ shoulders today. However, there aren’t many reasons for the Federal Reserve (the Fed) to consider cutting rates. With sticky inflation and a hotter-than-expected labor market, all the data the Fed wants to see improve is taking longer than expected.

Still, there are some cracks in the system that are worth examining. These markers often are a prediction tool for investors trying to guesstimate when these following interest rate cuts bring on a new stock market rally. Before these markers are revealed, all investors need to know that the healthcare sector is one of the early ones setting up for success.

As seen in the hiring sprees hitting the space last month, it is stocks like Amphastar Pharmaceuticals Inc. NASDAQ: AMPH and even Cross Country Healthcare Inc. NASDAQ: CCRN that stand out for investors to consider in the coming quarters, even a special guest from Wall Street has taken an interest in stocks like these, here’s why.

Are Small Cap Stocks the Best Opportunity? Druckenmiller Thinks So

Stanley Druckenmiller, the guy who traded shoulder to shoulder with George Soros, just sold out of Nvidia Co. NASDAQ: NVDA and bought into small-capitalization stocks through the iShares Russell 2000 ETF NYSEARCA: IWM. His reasoning comes as the potential for interest rate cuts sets the scene.

Historically, the Russell 2000 has outperformed the broader market when interest rates hit; since smaller businesses need much more funding and financial flexibility to take off, cheaper rates help them do so. However, not all small caps are made equal.

He didn’t buy small caps because there’s no other opportunity out there but because they may be the best. M2 money supply levels are back in expansion, and the rate of the Fed’s selling of U.S. Treasury Securities is slowing; these markers are always highly predictive of when the Fed is looking to cut interest rates.

Amphastar's Free Cash Flow Growth: The Key to Analyst's Bullish Projections

Over the past five years, Amphastar stock’s financials show that its free cash flow (operating cash flow minus capital expenditures) has grown by a compounded average growth rate (CAGR) of up to 47%, fueling all sorts of benefits for shareholders considering this company.

One of these perks is the company’s recent $50 million stock buyback program, which represents roughly 2.5% of its market capitalization of $1.9 billion. Through the company’s 45% to 55% gross margins, management can reinvest a large portion of its capital into profitable ventures.

This is why investors can enjoy an average return on invested capital (ROIC) rate of up to 12% in the past five years. Knowing this, Wall Street analysts see a consensus price target of up to $66 a share, calling for a 63% upside from where the stock trades today.

Even institutions have come in to support the stock at its bottom, trading at roughly 47% of its 52-week high. The Vanguard Group, Amphastar’s largest shareholder, boosted its stake by 1.7% in the past quarter, bringing its net investment in the stock to $174.2 million.

Pharmaceutical stocks are often speculative, depending on regulatory drug approval for success. However, judging by Amphastar’s steady and growing free cash flow, its products are far from being wild punts.

Why a Healthcare Hiring Spree Could Trigger a Boom for Cross Country Healthcare

According to the most recent employment situation report (NFP), the U.S. economy added 272,000 jobs over the past month, with healthcare accounting for a decent chunk of the total.

Up to 68,300 jobs went to the healthcare sector, or roughly 25.1%. Because Cross Country Healthcare operates in staffing solutions for hospitals and other medical institutions, this hiring spree could bring additional upside for this stock.

With a 5-year free cash flow CAGR of 53.9%, the stock’s $523 million market capitalization means the company trades at only 5.4x on a price-to-free cash flow basis, dirt cheap. The company’s financials steadily showcase a gross margin rate of over 20%, meaning it isn’t an overnight success.

Wall Street analysts have done the math, saving investors dozens of hours. The percentage of jobs allocated by this company translates to earnings per share (EPS) growth of 39.7% in the next 12 months.

Of course, these bullish assumptions justify higher price targets. Credit Suisse saw fit to assign the stock a valuation of up to $26 a share, daring it to rally by as much as 73% from its current level.