A commonly used strategy for investing is sector rotation. This involves the movement of funds from one sector to another based on macroeconomic and other factors. A good example is the flow of funds into undervalued healthcare stocks during the pandemic. It didn’t take long for healthcare stocks to trade at premium valuations. Similarly, e-commerce and online education stocks surged during the pandemic.

Once the concerns related to the pandemic eased, funds flowed to sectors negatively impacted by social distancing. This includes retail, travel, and tourism, among others. The healthcare sector is back to being ignored, with technology being the hottest sector in the recent past.

It’s, however, worth noting that the healthcare sector is evergreen. As unfortunate as it might sound, the global disease burden has been swelling. I expect a strong return for the healthcare sector, and it’s a good time to consider exposure to undervalued stocks.

Pfizer (PFE)

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I would certainly consider a fundamentally strong stock trading at 10-year lows and offering a dividend yield of 6%. Pfizer (NYSE:PFE) stock has been on a sustained downtrend, with the market discounting lower growth in a post-pandemic era. Further, the impact on revenue for drugs going off-patent is a concern.

However, even after discounting these factors, PFE stock looks undervalued at a forward price-earnings ratio 12.1. An important point to note is that Pfizer has been aggressively working on boosting its product pipeline.

First, the company has a pipeline of 113 candidates as of May. With an attractive late-stage pipeline, new molecular entities will likely support growth. Pfizer expects at least $20 billion in incremental revenue from new molecular entities by 2030.

Further, with robust cash flows from COVID-19 vaccine sales, Pfizer has been active on the inorganic growth front. The company expects $25 billion in incremental revenue from new business deals by 2030. In an important development, Pfizer closed the acquisition of Seagen in December 2023. With this, Pfizer expects to make significant inroads in the oncology business. Considering these developments, it seems that the negative sentiments are overdone.

Merck (MRK)

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Another biopharmaceutical stock that looks undervalued is Merck (NYSE:MRK). Over 12 months, MRK stock has trended higher by 9.5%. With the stock trading at a forward price-earnings ratio of 15, there is visibility for significant upside from current levels. Further, MRK stock also offers a dividend yield of 2.36%.

If we look at the estimates by 29 analysts, 83% have a buy rating on the stock, with 14% having a hold rating. Further, a bullish estimate indicates an upside potential of 20% from current levels to $155. I would not be surprised with 30% to 35% total returns in the next 12 to 18 months.

For Q1 2024, Merck reported healthy sales growth of 9% on a year-on-year basis to $15.8 billion. Further, the company has a 5% to 7% sales growth guidance for the full year.

It’s worth noting that for Q1, Merck reported R&D expense of $2.8 billion. With an annual R&D target of over $10 billion, the company’s pipeline will likely remain attractive and provide visibility for sustained growth. Merck has over 30 phase three programs, with 80 programs in the second phase.

Teladoc Health (TDOC)

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I remember seeing Teladoc Health (NYSE:TDOC) stock trading near $300 in February 2021. The stock has witnessed a meltdown from those levels and trades at $12.2. The significant correction has been behind weak growth in a post-pandemic world.

Of course, growth concerns can be sustained, but I am tempted to consider some exposure to TDOC stock at current levels. If the company can deliver accelerated growth, the upside potential is significant. However, I must caution against big exposure to the stock.

For Q1 2024, Teladoc reported revenue growth of 3% to $646.1 million. The company’s EBITDA increased by 20% to $63.1 million for the same period. Further, for the entire year, Teladoc has guided revenue and adjusted EBITDA of $2.7 billion and $370 million. I am optimistic about steady growth in international revenues in the next five years.

The numbers are not as bad as the stock decline indicates. However, it’s known that markets tend to react to extremes. Once sentiments reverse, TDOC stock will likely surge higher.

On the date of publication, Faisal Humayun did not hold (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.