Healthcare stocks are under pressure Tuesday after Medicare Advantage plan payments for 2025 came in lower than expected. TD Cowen Senior Equity Research Analyst at Gary Taylor joins Yahoo Finance Live to explain the implications for the healthcare industry.

Taylor describes it as an "annual political dance" that occurs between the industry and Centers for Medicare & Medicaid Services (CMS). He explains that when a proposed rule is issued, such as the 2025 Medicare Advantage (MA) proposed rule, "generally the industry lobbies...to make a case" for higher proposed rates. Typically, the final notice reflects increased rates; however, this time, CMS did not make any adjustments.

Taylor states that the potential fallout could "drive the industry to reduce the benefits they're offering seniors" next year, which could bolster margins for these businesses. Coupled with the low rate for 2025, he says, this dynamic could result in higher earnings growth.

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Editor's note: This article was written by Angel Smith

Video Transcript

[AUDIO LOGO]

JULIE HYMAN: Payments to Medicare Advantage plans for 2025 coming in lower than expected by the insurance industry and by investors. That decision is weighing down health stocks with Medicare insurance businesses leading those declines. And joining us now TD Cowen Senior Equity Research Analyst, Gary Taylor, to help us make sense of this.

So, Gary, when we talk about the change, or the lack of change in the rate of increase that these insurers are going to get year-over-year, this seems to have been sort of a break with prior increases and prior practice. Can you sort of walk us through that?

GARY TAYLOR: Yeah, sure happy to. Thanks for having me on. There's a little bit of an annual political dance that happens between the industry, and CMS, the government. This happens, not just in Medicare Advantage, but for providers as well, where there's a proposed rule that comes out. In this case, the 2025 in a proposed rule, Medicare Advantage proposed rule came out in January with the 16 basis point cut to the benchmark rates that the plans bid against.

Generally, the industry lobbies. They make a case for why the rate update should be higher. They bring Congress to bear in some cases.

And generally, the has become accustomed to the final rate is better. So if you look over the last seven or eight years, the final notice which we got last night has been about 100 basis points better than the advance notice. And in this case, CMS heard all the arguments said they appreciated it, but made no change.

JOSH LIPTON: So, Gary, does that mean if you're a investor and you're listening right now, does that news mean you should just expect margin pressure here just across the board for these names?

GARY TAYLOR: Well, I actually think it's hard to conceptualize. But no, I actually think this is going to drive the industry to reduce the benefits that they're offering seniors in '25. And we're going to see substantial margin improvement in 2025. But that's primarily a function of the plans are all going to earn below their target margins in '24.

The rates came down in '24 just as medical costs started accelerating. So plans are in below target margin in Medicare in '23. It's going to be worse than '24.

That dynamic plus the week rate update for '25. It's what's going to cause we believe the plans to pivot to profitability. Most of the last decade, the MA plans have been rewarded for chasing enrollment, market share gains over maximizing margins.

And we think the plan and the industry are at a point now where they're going to pivot to profitability and investors will be rewarded with maybe slower top line, but higher earnings growth, higher margins in the Medicare business.