Shares of Humana (HUM) are on the rise after JPMorgan analyst Gary Taylor upgraded the stock to Overweight, a Buy-equivalent rating, saying that the company's underlying earnings power provides downside protection in the event of a failed acquisition by Aetna (AET). Nonetheless, he sees a higher probability of the deal closing, especially given a Republican administration.

UNDERLYING EARNINGS POWER: JPMorgan's Taylor upgraded Humana to Overweight from Neutral, citing an improving view of the company's underlying earnings power, which he believes provides greater downside protection in the event the Aetna acquisition is blocked by the court. The downside protection provides greater confidence to chase the current 20% upside from the outstanding $224 per share Aetna takeout offer, Taylor contended. Additionally, the analyst pointed out that he sees a more favorable Medicare Advantage outlook supported by Paul Ryan's Affordable Care Act replacement plan, and higher odds of permanent HIF repeal. Further, he expects lower political risk for the Republican Federal Judge to approve the transaction and no further "public option" concerns to weigh upon the group. Taylor raised his price target for Humana shares to $202 from $163.

DEAL LIKELIHOOD: The analyst told investors that he is also raising the likelihood of a merger approval to 50% from 35%. Taylor noted that he has long held that the Aetna-Humana transaction represented a "conventional" health insurance antitrust analysis with material divestiture as a remedy. Therefore, he has struggled to understand the Department of Justice's objection and has settled on a primarily political explanation. As such, the analyst point out that the DOJ should prefer settlement versus a court loss and may be satiated by an earlier court rejection of the Anthem (ANTM)/Cigna (CI) merger. Further, political pressure could have been brought to bear on the Republican judge but such pressure would logically diminish under a new Republican administration, he contended.

WHAT'S NOTABLE: Aetna and Humana are not the only healthcare insurance companies looking to merge. Cigna has also agreed to be acquired by its competitor Anthem, but not without facing opposition from U.S. regulators as well. Back in July, the Justice Department filed lawsuits to block both mergers. However, many see the Aetna-Humana deal as more likely to close, as Anthem and Cigna continue to bicker and may be less likely to be able to defeat the government.

PRICE ACTION: In morning trading, shares of Humana have gained over 1.5% to $188.93, while Aetna's stock is up over 2.5% to $121.15 per share.