Investors have poured money into healthcare stocks, including Cochlear (ASX: COH), which has now topped $200. CSL Limited (ASX: CSL) shares are close behind, having recently rallied to a record $178, and experts believe this upswing is set to continue.

Chris Kallos, a Morningstar healthcare equity analyst, says the popularity with investors is due in part to the sector's defensive nature. Consumers are expected to keep spending on essential healthcare products and services, even during any economic downturn.

Greater export opportunities to China is another supporting factor for the sector, which is valued at about $175 billion – along with the low Australian dollar, and a big national healthcare spend that amounts to more than 10 per cent of GDP.

"CSL and Cochlear are considered havens because they are good quality stocks with good prospects, while other parts of the stock market have been more volatile. The lower Australian dollar has also helped their earnings," says Kallos.

He expects CSL to continue to make gains given growth across the company's various businesses, including an expected inaugural profit from its flu vaccine, Seqirus in 2017-18. The core business is also strong as CSL has a strong hold on the global market for blood plasma supply and flu vaccines.

The research and development pipeline remains robust, says Kallos, with chief executive officer Paul Perreault having invested heavily in this area since his appointment in 2013. The company is in the final stages of testing a new heart drug, and another blood plasma by-product. The drug is intended to address recurrent heart attacks caused by atherosclerosis, a condition currently treated by the process formerly known as angioplasty.

"CSL is best known for its therapies in treating rare diseases. However, this is targeting a mass market. The phase-three trials will run for the next four to five years and if successful, could be a blockbuster for the company," Kallos says.

CSL is a preferred healthcare exposure of Macquarie Wealth Management, even at its high valuations, with a price-earnings ratio of about 38:1.

"While current multiples are elevated relative to historical averages, we continue to see CSL as well positioned relative to domestic healthcare peers on a price-earnings growth basis. We maintain an Outperform rating. CSL remains our preferred healthcare exposure," the wealth manager said in a recent research note.

Reflecting the strength of Cochlear's business, Morningstar upgraded its economic moat rating to wide from narrow in December last year. The company has a well-established technological leadership in cochlear implants, and its moat is now the widest in Australian healthcare, according to Kallos.

"Cochlear's track record of industry-leading innovation and reputation for reliability contribute to substantial brand strength and underpins our wide moat rating,” says Kallos. Moreover, the ageing of the population in developed markets is a key opportunity.

However, in emerging markets, more competition is expected for the hearing-implant maker. "We think the market is underestimating the threat of new entrants encroaching on the emerging China opportunity where government tenders have provided newcomers an entry point based on price," says Kallos.

He believes the outlook for other listed healthcare companies ResMed (ASX: RMD), Ramsay Health Care (ASX: RHC) and Sonic Healthcare (ASX: SHL) is also strong.

While Cochlear, CSL and ResMed are well above Kallos's fair values, he says Ramsay Health Care isn't overpriced. His FVE of about $80 for Ramsay compares favourably to its $65 share price at the time of publication.

"The company has had a difficult time in France, and the UK. Although the Australian businesses are strong. They are doing things on the cost side, so they seem to be on track to getting costs down," says Kallos.

He also names Sonic Healthcare as a sound business. The company has put in a steady performance for investors, with a five-year return of about 15 per cent.

"Sonic is a steady performer, paying good dividends with high-quality earnings, but without the high growth of CSL because it's a different sort of business. Sonic buys pathology and diagnostic practices and then gets economies of scale, whereas CSL creates its own intellectual property through its R&D, which is a higher growth activity," says Kallos.

ResMed is another healthcare high-flyer, with its share price up 43 per cent over 12 months – outstripping CSL's already impressive 38 per cent gain. According to Kallos, this reflects ResMed's leadership in sleep apnoea products, and is a key underpinning of its narrow moat rating.

"We expect new product initiatives such as the launch of the Mobi and the rollout of the new quiet air diffuser technology, QuietAir, in the full-face mask in the US, in conjunction with favourable changes in reimbursement in France, Japan, and South Korea will maintain positive momentum over the medium term," he says.

"As such, we maintain our five-year revenue compound annual growth rate forecast for devices and masks of 8 per cent and 10 per cent, respectively, versus broader market growth of 6 per cent and 8 per cent, respectively."

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The writer owns shares in CSL and ResMed

Nicki Bourlioufas is a Morningstar contributor. This is a financial news article to be used for non-commercial purposes and is not intended to provide financial advice of any kind. Opinions expressed herein are subject to change without notice and may differ or be contrary to the opinions or recommendations of Morningstar as a result of using different assumptions and criteria.

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