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Small-cap, oncology-focused biotechs with novel technologies have always been bestsellers for investors. Subplots have emerged along the way, but Aegis Capital Corp.'s Managing Director and Head of Healthcare Equity Research Raghuram "Ram" Selvaraju maintains that these companies continue to drive the biotech story forward. In this interview with The Life Sciences Report, Selvaraju reflects on the state of the industry and shares reams of information on specific ideas for investors.

The Life Sciences Report: Ram, you've had a good 12-month run with your coverage. We are more than six months into 2013, and I wonder if you have seen transitions in momentum to new industries or companies. Has there been any shift in emphasis by investors?

Ram Selvaraju: We had a few rocky weeks moving from early to late June. There was a fear that the Federal Reserve would turn off the tap of unlimited liquidity for the U.S. economy and that the economy would go into a tailspin without continued support. I think those fears have abated somewhat, especially after recent reassurances by the head of the Federal Reserve, Ben Bernanke, that quantitative easing would continue until there is substantially greater strength in the U.S. macroeconomic recovery.

But I would remind investors that overall macroeconomic concerns have not, by and large, been significant impediments to the run-up in the biotech sector. The NASDAQ Biotechnology Index [NBI] and the Amex Biotechnology Index [BTK] are up more than 70% in the last 24 months. That just creams the heck out of the Dow Jones Industrial Average and the Standard & Poor's index, both of which are only up about 20% over the same timeframe.

Biotech's massive outperformance has principally been driven by a substantial appreciation in the stock prices of old-guard biotechs like Amgen Inc. (OTC:AMGM), Biogen Idec Inc. (NASDAQ:BIIB), Celgene Corp. (NASDAQ:CELG), Gilead Sciences Inc. (NASDAQ:GILD) and Regeneron Pharmaceuticals Inc. (NASDAQ:REGN). But, in my view, a large number of smaller-cap companies have also benefitted. Only a few years ago these companies were trading at market capitalizations of only a few hundred-million dollars, and now they have market caps well in excess of $1 billion [$1B]. Examples include Regeneron Pharmaceuticals Inc., Medivation Inc. (NASDAQ:MDVN) and Pharmacyclics Inc. (NASDAQ:PCYC).

TLSR: You have established that biotech has powerfully outperformed the overall market. What about emerging trends?

RS: Overall biotech outperformance is a significant trend in itself, and I do not anticipate that abating. As we have discussed in the past, this is driven by the more risk-tolerant stance at the U.S. Food and Drug Administration [FDA] and the fact that a record number of drugs were approved last year-39, in fact-more than those approved in 2010 and 2011 put together.

Also, it should be noted that many of these approvals were for new molecular entities, drugs that constituted entirely novel advances. We had not seen an approval pace like this since the late 1990s. If the pace continues, and more than 30 new drugs are approved this year, I think investors are going to view the FDA as much less an enemy to the drug industry, and are going to believe that the industry is worth investing in.

In addition, some subsectors of biotech that were really hot in 2010 and 2011 have lost a bit of their luster in 2013. That includes some hepatitis C [HCV] names, like Achillion Pharmaceuticals Inc. (NASDAQ:ACHN), which I still am bullish on. I don't anticipate that this is going to be a significant issue, but the fever over HCV has subsided.

What we are seeing instead is a massive appetite for small-cap, oncology-focused companies. Some have the equivalent of Phase I/II data, and yet they're trading at billion dollar-plus market caps. Infinity Pharmaceuticals Inc. (NASDAQ:INFI) had a massive run, from below $10 all the way up to $50, and now it's somewhere around $17/share. Merrimack Pharmaceuticals Inc. (NASDAQ:MACK) still sports a roughly $480 million [$480M] market cap, despite not having any pivotal trial data. Clovis Oncology (NASDAQ:CLVS) added nearly $1B to its market cap after disclosing Phase I/II data at the American Society of Clinical Oncology [ASCO] annual meeting in June. The list goes on and on.

TLSR: Ram, what is your favorite stock right now?

RS: Our favorite stock here at Aegis-and the best performing biotech idea of 2013 to date-is Stemline Therapeutics Inc. (NASDAQ:STML). I initiated coverage on this company back in March at $11.55. It is currently trading around $26. We brought this company public at the end of January at an initial public offering [IPO] price of $10/share. It has been a phenomenal performer. We believe significant additional upside is yet to come.

Stemline is in the vanguard of small-cap, oncology-focused companies because of its focus on cancer stem cells [CSCs]. The company has the ability to specifically abrogate cancer stem cells involved in reconstituting tumors after the tumor bulk has been removed via surgery or chemotherapy. These cancer stem cells are the reason patients get recurrences of cancer. Stemline is developing a suite of therapies that would specifically target cancer stem cells. Its drugs hit the tumor bulk as well, which is how they are differentiated from other cancer drugs.

TLSR: What does the pipeline look like at Stemline?

RS: The firm's most advanced candidate, SL-401 [human interleukin-3 coupled to a truncated diphtheria toxin], has a rapid path to market because it's being developed in an ultra-rare hematological malignancy. So far there has been a 100% response rate. Every patient treated with this drug has had a response, and 60% have had complete responses, meaning the drug effectively got rid of their disease. That is unseen in the oncology domain; now the drug is potentially on a path toward accelerated approval.

TLSR: You said the disease is rare. What is it, and how rare is it?

RS: It is called blastic plasmacytoid dendritic cell neoplasm [BPDCN], and it affects about 2,000 patients every year in the U.S. and Europe. Because of the rarity, the drug could potentially be deployed at a very high purchase price per patient. It can also be deployed in other blood cancers, including acute myeloid leukemia [AML] in the post-third-line setting, as well as in hairy cell leukemia.

TLSR: I am familiar with cancer stem cells, which by definition are more durable, more aggressive and more resistant to therapies. Does SL-401 have a multitargeting capability?

RS: Effectively, SL-401 works via the same mechanism as a drug called Ontak [denileukin diftitox; Eisai Inc. (OTC:ESALF)]. Ontak selectively delivered a portion of the diphtheria toxin protein into the interior of cancer cells by targeting cancer cells that expressed the interleukin-2 receptor [IL-2R] on their surfaces.

The same exact mechanism is being utilized by Stemline's SL-401, except that Stemline's drug targets the interleukin-3 receptor [IL-3R]. What's nice about the way SL-401 kills tumor cells is that it is very difficult for the cells to evolve resistance to it. It's very cytotoxic. If delivered selectively into cancer cells and cancer stem cells, it will result in cell death, no matter how protective the cells are and how many resistance pathways they might have. The cell is doomed.

TLSR: Is this an antibody conjugate?

RS: It's a conjugate, but not an antibody conjugate. It is a fusion protein. A portion of the diphtheria toxin is fused to the receptor-binding domain of the IL-3, which is a messenger or signaling molecule. SL-401 utilizes interleukin-3's ability to fuse to the interleukin-3 receptor [IL-3R] and thereby is internalized by cancer cells and cancer stem cells. It works because the targeted tumor cells in BPDCN patients express very high levels of IL-3R on their surfaces.

TLSR: In the conjugated state, is SL-401 safe for the patient? In other words, is the toxin not released until it attaches to the tumor cell?

RS: Diphtheria toxin has no activity extracellularly. The therapy has a low side-effect profile, in high contrast to what is typically seen with oncology drugs. IL-3R is expressed on normal cells, too, but not anywhere near the level of cancer cells and CSCs.

SL-401 is entering Phase III. The company has had discussions with the FDA on the design of a single-arm, open-label trial. The FDA is more than happy to entertain this relatively small clinical trial, enrolling about 40 patients, because of the stellar response rates seen so far. I believe the drug will not have to go through to the end of a Phase III trial before petitioning the FDA for approval. If the company gets 20 patients into this trial, and all 20 respond, Stemline will file for accelerated approval. Stemline could potentially have the drug on the market by late 2015, if not earlier.

TLSR: If you will go ahead and select another company, I'd love to hear about it.

RS: We continue to like Synergy Pharmaceuticals Inc. (NASDAQ:SGYP). The company recently raised more than $100M, so it is not going to need to raise additional capital for a very long time. In May, it unveiled additional safety and efficacy data from a previously reported Phase II/III study of its lead drug candidate, plecanatide. These data clearly demonstrated that there is a very robust dose response from an efficacy standpoint in patients with chronic idiopathic constipation. The side-effect profile was extremely good-much better, in our view, than Linzess [linaclotide; Forest Laboratories Inc. (NYSE:FRX) and Ironwood Pharmaceuticals Inc. (NASDAQ:IRWD)], the only direct competitor.

Synergy is starting two phase 3 trials with plecanatide in chronic constipation at the beginning of Q4/13. We anticipate topline results from those studies in the summer of 2014, after which the company can file for approval in the U.S. for that indication. The company could potentially have an approval before the end of 2015, assuming a standard review. The drug could be on the market for chronic constipation in late 2015 or early 2016.

Synergy also has a Phase IIb study running in irritable bowel syndrome [IBS] of the constipation-predominant subtype, which should report results early in 2014. If that study is positive, the company will have to do two more Phase III trials in IBS. I anticipate it would start those studies in H2/14, complete them by the end of 2015, file for IBS approval in early 2016, and have an approval in early 2017.

TLSR: Why is plecanatide superior to linaclotide?

RS: In our view, linaclotide has an inferior safety profile. In essence, linaclotide works too well. It relieves constipation but causes diarrhea in 20-30% of patients. Five to 10% of those patients have to stop taking the drug because the diarrhea is so bad. We do not believe this will be an issue with plecanatide and, indeed, that's not what Synergy saw in the Phase II/III study. The discontinuation rate seen with plecanatide was about half of what was observed with linaclotide, without any discernible difference in magnitude of efficacy.

TLSR: Ram, go ahead to your next idea.

RS: I'm looking at Ampio Pharmaceuticals Inc. (NYSEMKT:AMPE). We recently raised our price target to $12, a 12-month target. The company is currently trading at about $6. When we initiated coverage, the stock was trading at less than $4, so we've seen a pretty decent increase.

We think there is a lot of misinformation out in the blogosphere about this company. A lot of people like to trash Ampio, and, in our view, this company doesn't deserve any of the criticism. Various commentators have stated that the company's clinical-stage candidates do not target validated markets, which is untrue. Knee osteoarthritis, premature ejaculation and diabetic macular edema are all opportunities worth hundreds of millions of dollars individually. There has been criticism of the company's clinical proof-of-concept data, which we believe denotes a poor understanding of the principles underlying statistical analysis and the mechanisms of action for Ampio's lead agents.

Ampio is a classic example of how a company can develop drugs in a cost-effective and capital-efficient way. All three of Ampio's clinical-stage drug candidates are already approved in the U.S. for use in other indications, and Ampio is developing these agents for new uses.

Ampio has a drug called Zertane [tramadol], which is being developed for the treatment of premature ejaculation. Tramadol is widely utilized as a nonsteroidal painkiller. Its second drug candidate, Optina, is a low-dose formulation of danazol, which was originally commercialized in the 1970s as a treatment for endometriosis. The new formulation is a proposed treatment for diabetic macular edema. Its third drug candidate is Ampion, which is a cyclic peptide derivative of human serum albumin. Albumin has been used for a variety of ailments for a very long time. Ampion is being developed, at least initially, for the treatment of pain associated with osteoarthritis in the knee.

TLSR: Ram, this company's market value is about $226M. How much value is there in these repurposed drugs?

RS: From our perspective, the market could be worth hundreds of millions of dollars per year. Currently, the financial community is giving Ampio no credit whatsoever for its oxidation reduction potential diagnostic platform [for use in the diagnosis of serious inflammation and oxidative damage in patients who have suffered heart attacks and strokes, as well as other indications]. Ampio has three separate shots on goal, plus the diagnostics, and it doesn't spend much money. Its clinical development pathway is very cost-effective for all three drugs because none of the programs require massive evaluation time periods. We're talking about clinical trials that typically last less than a year. Safety profiles are not going to be a problem because all of these compounds have been around for years and are well known. Plus, Ampio is using the drugs at significantly lower concentrations than in their current indications.

TLSR: Go ahead with your next idea.

RS: I'll mention a couple of the larger-cap names that I follow, which I think still have significant additional upside. We correctly anticipated that Medivation's prostate cancer drug, Xtandi [enzalutamide], currently marketed in the U.S. for treatment of chemotherapy-experienced, hormone-refractory prostate cancer, would get approval in Europe. The company is also in a Phase III study looking at this drug's activity in chemotherapy-naïve, hormone-refractory prostate cancer. We anticipate the drug's effectiveness will increase the earlier it is deployed in prostate cancer treatment. Since chemo-naïve prostate cancer is clearly an earlier stage, the survival-promoting benefits should be comparatively greater in this patient population. We anticipate interim results from that Phase III trial, known as PREVAIL, sometime in the next three to four months.

TLSR: Medivation had a huge run-up at the end of 2011 and through the end of 2012. How do you value this company with these upcoming catalysts taken into consideration?

RS: We believe that Medivation's shares are attractively valued, especially in the context of the valuations of comparable companies. For example, Pharmacyclics trades at close to a $7.4B market cap, whereas Medivation only trades at a $4.1B market cap. Medivation does share the revenue from Xtandi with its large pharma Japanese partner, Astellas Pharma Inc. (OTCPK:ALPMF), but the company still takes home half the profits associated with the drug in the U.S., and gets a substantial double-digit royalty on net sales outside the U.S.

We believe this drug could generate as much as $6-7B/year in sales, especially if approved and commercialized successfully in all of the sub-indications of prostate cancer and for earlier-stage disease. It also appears to have applicability in breast cancer. We think there is significant additional upside for Medivation. It trades currently at about $57/share, and we have a $100 price target on it. We'd also note that this is one of the most attractive potential merger-and-acquisition [M&A] candidates in the oncology sector-and that there is renewed probability of M&A transactions occurring in the space following the recently publicized interest of Amgen Inc. in acquiring Onyx Pharmaceuticals Inc. (NASDAQ:ONXX), another oncology-focused specialty company.

TLSR: Do you have another name?

RS: Acorda Therapeutics Inc. (NASDAQ:ACOR) trades at about $37/share with a $1.5B market cap. We have a $40 price target, but that is very conservative because we're only ascribing a $150M net present value [NPV] to the usage of Acorda's currently marketed drug Ampyra [dalfampridine] in post-stroke deficit. The drug is already approved to improve walking in patients with multiple sclerosis [MS]. But the company has demonstrated positive results from a mid-stage trial in post-stroke deficit, which affects 7M people in the U.S. today. There are only about 500,000 MS patients in the U.S.

If the drug were approved for post-stroke deficit as well, its potential market would be massively expanded. In that context, we believe investors should be looking at Acorda Therapeutics. This is a risk-mitigated company. It's profitable. It's very well run. It has a significant amount of cash with which to do additional strategic acquisitions, if necessary. And there is significant additional upside inherent in Ampyra, which is already a marketed, profitable product.

TLSR: I enjoyed our conversation very much. Thank you, Ram.

RS: Thank you. My pleasure.

This interview was conducted by George S. Mack of The Life Sciences Report.

Raghuram "Ram" Selvaraju's professional career started at the Geneva-based biotech firm Serono in 2000, where he discovered the first novel protein candidate developed entirely within the company. He subsequently became the youngest recipient of the company's Inventorship Award for Exceptional Innovation and Creativity. Selvaraju started in the securities industry with Rodman & Renshaw as a biotechnology equity research analyst. He was the top-ranked biotech analyst in The Wall Street Journal's "Best on the Street" survey [2006]. Selvaraju went on to become head of healthcare equity research at Hapoalim Securities, the New York-based broker/dealer subsidiary of Bank Hapoalim B. M., Israel's largest financial services group. While at Hapoalim, Selvaraju was regularly featured in The Wall Street Journal, Barron's, BioWorld Today, and Reuters/AP. He was also a regular guest on the Bloomberg TV program "Taking Stock," and was a guest on CNBC's "Street Signs with Herb Greenberg." He is currently an analyst and managing director with Aegis Capital Corp.

DISCLOSURE:

1) George S. Mack conducted this interview for The Life Sciences Report and provides services to The Life Sciences Report as an independent contractor. He or his family own shares of the following companies mentioned in this interview: None.

2) The following companies mentioned in the interview are sponsors of The Life Sciences Report: None. Streetwise Reports does not accept stock in exchange for its services or as sponsorship payment.

3) Ram Selvaraju: I or members of my immediate household own shares of the following companies mentioned in this interview: None. I personally am or my family is paid by the following companies mentioned in this interview: None. My company has a financial relationship with the following companies mentioned in this interview: Ampio Pharmaceuticals Inc., Synergy Pharmaceuticals Inc., Stemline Therapeutics Inc. I was not paid by Streetwise Reports for participating in this interview. Comments and opinions expressed are my own comments and opinions. I had the opportunity to review the interview for accuracy as of the date of the interview and am responsible for the content of the interview.

4) Interviews are edited for clarity. Streetwise Reports does not make editorial comments or change experts' statements without their consent.

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I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Source: Raghuram 'Ram' Selvaraju On The Best Biotech Ideas Of 2013