Seeking Alpha
Long/short equity, research analyst, biotech, healthcare
Profile| Send Message|
( followers)  

Yesterday I outlined my top picks in health-care for the year by market cap. In this article, I discuss some popular trades in the sector that are better left alone. My idea is simple. While growth is always nice, it's equally as important to avoid potential pitfalls that could put you behind the eight-ball in terms of performance.

So while there are a handful of stocks being trumpeted as 'sure-fire' winners in health-care this year, my aim is to urge investors from being suckered into some of these 'too good to be true' scenarios.

When all is said and done, my absolute best trades have been in stocks that almost no one was considering, or at least considering my angle. My point is that investments where everyone appears to be 'in the know' are unlikely to produce out-sized gains, and are thus better avoided altogether.

When I went short Sarepta last year, for example, it seemed like the entire market was against me. Yet, my out of the money options produced 800% gains in two weeks. When I started buying a largely unknown cancer company by the name of Merrimack last year, it literally had no social following. Nonetheless, I banked 90% gains in short order off of Merrimack before most of the market was even aware the company existed.

On the flip side, one of my worst trades ever was in the ever popular Vringo, where everyone and their grandmother thought they had a ticket to Charlie's Chocolate Factory.

Armed with these lessons, here is my take on two popular health-care trades that investors might want to avoid this year.

Acadia has a long, long road ahead

Acadia Pharmaceuticals (NASDAQ:ACAD) was one of the best performers in the health-care sector last year, and as such, there are definitely investors lining up to see if it will continue to climb this year. So let me stop you right there. Acadia is going to underperform the sector all year long.

Why? A couple of reasons. Firstly, the company now has a market cap over $2 billion. Secondly, Acadia has no revenues. Thirdly, Acadia has mounting clinical trial costs. And finally, there just isn't anything on the near-term horizon to drive share price higher.

Per the company's statements, the plan is to file a New Drug Application, or NDA, for pimavanserin in Q4 of this year. After a powwow with the FDA last April, Acadia is undertaking the necessary supportive studies this year prior to filing an NDA, which are expected to wrap up around the middle of this year. In short, pimavanserin won't be approved until at least halfway through 2015.

And not surprisingly, insiders have been taking advantage of the high share price to cash out, selling 10% of their holdings. If the magnitude of these insider sales won't convince you that Acadia is a bad investment this year, I don't know what will. My bet is that the stock is going to bleed all year long until the NDA filing in Q4. Don't be surprised if Acadia sinks into the low teens playing the waiting game in 2014.

Going short or long Questcor is probably a bad idea

I know several people shorting Questcor Pharmaceticals (QCOR) right now, based on the various investigations into the company's marketing practices for Acthar Gel. At the same time, I must have an equal number of contacts that are long the stock.

Longs are convinced that the company will continue to essentially print money from Acthar sales, and that share price is ridiculously undervalued. On the one hand, they have a point. Acthar sales leaped 62% year over year in Q3, generating $227 million in revenue. At its current price to earnings ratio of roughly 12, you can't help but think Questcor is grossly undervalued.

To put this into context, the average PE ratio in the sector has blown up to over 30 lately. Yet, the market isn't willing to pay a premium on Questcor's current earnings, and is massively discounting its future earnings. In fact, 30% of the float is now short, and this number is only increasing. Shorts are apparently convinced that Questcor is going to blow up.

So is there something rotten in Questcor-dam? If you read my last article on the matter-and judging from the page views you haven't, you might get the opinion that I believe there are bad things going down at Questcor. And you'd be right.

But I also believe that the company will receive little more than a minor fine, and lay most of the blame at the foot of the Chronic Disease Fund, or CDF. In that case, Questcor is probably going to leave shorts with a fair amount of egg on their face, and eye-watering losses in their portfolios. In effect, I believe the short thesis is another 'too good to be true' investing thesis.

There is always the outside chance that an investigation turns up hard evidence against Questcor's management and indictments start getting handed out like candy. And the shorts get a cash shower as a result. But honestly, who knows for sure how this will play out? I don't.

In sum, I don't see a position, long or short, in Questcor as a good idea. Why take on that much risk with so many other compelling investment opportunities in the sector? Your chances of being right on this one either way are no better than a coin flip. I prefer to find trades with better odds than that.

Conclusions

Investing in health-care stocks is akin to living with crazy people. You have no idea what they are going to do from one day to the next. Yet, the fact that the market often places mind-boggling premiums on potential and actual sales, investors come calling like a moth to a flame. As such, it is all too easy to get caught up in the moment and follow the next investing craze in the sector. Acadia and Questcor have obviously gotten a lot of ink over the past year, causing investors to closely eye-ball these stocks. My advice, however, is to keep your interest in these two at the window shopping level for the time being. There are much better bargains with way less risk if you do a little digging.

Source: Healthcare Stocks To Avoid This Year