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Steve Calhoun of Fidelity Select Health Care Portf

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Quick Take: Health-care stocks may have been hurt by the spectre of government regulation and fewer blockbuster drugs, but several new developments, notably in medical devices, look promising, says Steve Calhoun, manager of the $1.75 billion Fidelity Select Health Care Fund (FSPHX).

Calhoun sees great potential for drug-coated stents, which he says should soon receive the green light from the Food and Drug Administration. “A significant milestone for the health-care industry,” Calhoun predicts these stents will spur growth for several companies, including Johnson & Johnson (JNJ) and Boston Scientific (BSX). In a challenging environment, such attractive innovations offer the best prospects in the health-care sector, he feels.

Calhoun, who took over the Fidelity fund a year ago, has managed to avoid the steeper declines that have plagued his peers. For the one-year period through last month, the fund fell 16.1%, versus a 24.3% loss for the average health-care fund. Among domestic equity funds, the portfolio is the fifth-best-performing fund for the ten-year period through last month, with an average annualized gain of 15.3%. Calhoun credits this success to Fidelity’s strengths in investment research.

The Full Interview:

S&P: What areas of health care are you currently focusing on?

CALHOUN: Broadly, the fund’s sector weightings are about 50% in pharmaceutical companies, about 25% in medical device companies, about 10% in biotechnology companies, and about 3% to 5% in cash.

S&P: Do recent questions over accounting at Bristol-Myers Squibb (BMY) indicate wider problems among pharmaceutical companies?

CALHOUN: There are clouds over many pharmaceutical companies because of concerns about their new drug pipelines and patent expirations for existing drugs. Some companies have been hit by either one of these issues, but Bristol-Myers has been hit hard by both. Pharmaceutical companies have been written off because of these problems many times over the last 25 years, but these difficulties go in cycles.

S&P: Do you see any promising new health-care innovations?

CALHOUN: Drug-coated stents, which apply drugs to stents placed into arteries, have enormous potential. The Food and Drug Administration is expected to approve these devices in a couple of weeks, and they will be a significant milestone for the health-care industry. Johnson & Johnson (JNJ) is likely to be the first company to market these drug-coated stents, followed by Boston Scientific (BSX).

Another promising development is implantable defibrillators, which should spur growth for companies, such as Medtronic, Inc. (MDT), St. Jude Medical (STJ), and Guidant Corp. (GDT). Vice President Dick Cheney is a notable beneficiary of a defibrillator.

S&P: What’s your view of biotechnology?

CALHOUN: There’s been a lot of hype about biotechnology, but there are probably only eight to ten biotech companies that are profitable. Many biotech companies have had problems with new products, so I’ve focused on a small number of companies with growth prospects.

S&P: Valuations of health care stocks have been hurt by the prospect of increased government regulation. Do you expect that to continue?

CALHOUN: I don’t necessarily see that cloud going away. The politics will always be there, and it’s something we’ll have to live with.

S&P: What’s your view of the federal government providing a prescription drug benefit to senior citizens?

CALHOUN: I would expect there will be some prescription benefit plan offered through Medicare. I’m not necessarily positioning the fund based on one form of this or another. If some plan is passed, it’s likely to boost drug utilization.

S&P: Why has the fund done better than most health-care funds for the one-year period through last month?

CALHOUN: It’s related to gains from medical device companies and selected pharmaceutical stocks, including Johnson & Johnson. Also, UnitedHealth Group (UNH) has had high growth.

S&P: Have you made any changes since taking over the fund last year?

CALHOUN: I run a more concentrated portfolio than previous managers did. Currently, there are roughly 40 holdings, compared with close to 90 names when I joined the fund. The fund’s weighting in medical-device companies is higher than in the past. Five years ago, the fund was more focused on biotechnology and pharmaceuticals.