No matter where you stand on the Patient Protection and Affordable Care Act of 2010, otherwise known as Obamacare, if you are a stock trader then you should consider the impact it might have on public companies.  Not surprisingly, a majority of the biggest health insurance companies are not publicly traded. It is an industry that has undoubtedly benefitted from a lack of commercial regulation, rent-seeking, and practices that in any other industry would be described as price fixing or gouging. Why would they subject themselves to additional regulations by going public? Besides, the health care racket is generally profitable enough that outside financing is not necessary, but that could be changing.

The new law contains a provision that went into effect yesterday and may have an impact on the profitability of big plans like those offered by Aetna. Rick Ungar of Forbes.com goes into greater detail in The Bomb Buried in Obamacare Explodes Today - Hallelujah!  In a nutshell, insurance providers will be forced to spend 80 to 85 percent of their premium dollars on patient care, which for AET would appear to represent as much as an 18% increase above what they pay today.

AET is one of the larger and more well known insurance providers, but it also has the lowest P/E ratio in its class. This might make it an unlikely candidate for a short, unless you believe the new laws will sufficiently diminish the whopping 4.70 per share they are currently earning, second most among the publicly traded stocks in the industry. The thinking here is simple: Obamacare will not be repealed, at least not in time to save the profits of the companies it will affect. All else being equal, according to the most recent annual filing, for AET this would compel them to spend at least $4.3 billion more than they did in FY 2010 on patient benefits.  For a company that reported a $2.6 billion operating income during that same period, this legislation could be devastating.

No doubt AET and other insurance providers will utilize all available measures to nullify the effects of Obamacare. For instance, their tax bill will decrease and they will eventually receive a shot in the arm from the increased taxes that will subsidize some of the care. On the other hand, as suggested in the Forbes article, some of the reported cost of revenue ($24.7 billion in FY 2010) might be comprised of costs that would be disqualified from the 85 percent, such as commissions on selling policies. It is unclear whether those values are included among SG&A in the public filings, although any sane accountant would observe that they should be.

I'm giving this coverage four full quarters for the idea to mature. If you see a problem in the logic or a way out for companies like AET then I would like to hear your thoughts.