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On Tuesday, December 7, a Food and Drug Administration advisory panel voted 13 to 7 to recommend approval for Orexigen Therapeutics (NASDAQ:OREX)'s obesity drug Contrave.

Contrave moves closer to commercialization while its two principal rivals -- Arena Pharmaceuticals's (NASDAQ:ARNA) Lorquess, or lorcaserin, and Vivus Inc's.(NASDAQ:VVUS) Qnexa -- were sent back to the drawing board in October because of safety concerns.

I have previously suggested an approach for investors interested in making a general play on obesity drug development, or in taking a view that the FDA will come to regard obesity drugs as tools for improving health rather than as "vanity" or cosmetic aids. I call it the "basket" approach, although up until Tuesday it was leading some to call me a "basket case." The idea was to invest in a basket of all three of the small obesity drug developers, VVUS, ARNA, and OREX. This diversifies out some of the company-specific risk, and relieves the investor of the mental burden of constantly handicapping one of the companies against the other two. Whether or not someone actually made money on this basket, of course, would depend on when it was purchased, how it was weighted at the start, and how and whether it was reweighted. But in principle, it is nice to feel vindicated.

Going forward, it may still be worth considering a modified, or at least reweighted, basket approach. VVUS now has two years of safety data that it may well be able to resubmit to the FDA for Qnexa. While ARNA's prospects look cloudier, a small exposure to ARNA can be had for relatively cheap. When you own all three stocks, you don't have to put time and energy into sorting out the ups and downs or relative merits of any one of them so much.

Contrave is a combination of two existing drugs, the antidepressant bupropion and the anti-addiction drug naltrexone, in a sustained release formulation. On average, patients had a 4.2% placebo-adjusted weight loss. However, the average does not tell the whole story, since it seems that patients either respond to Contrave fairly strongly or hardly at all: about 50% of patients achieved weight loss of 5% or more of body weight. This meets one of the FDA benchmarks for efficacy, and that's all that is required.

The panel also voted 11 to 8, with one abstention, that additional cardiovascular safety studies be conducted post-approval rather than pre-approval. This second vote is very good news for Contrave as well as all other obesity candidates, since the studies in question would be very extensive and time-consuming, enrolling thousands of patients over several years. Conducting such studies pre-approval would arguably make obesity drug development prohibitively difficult. VVUS shares rose 10% Tuesday afternoon on the news of the safety study vote.

OREX has a marketing partnership in place for Contrave with Takeda of Japan.

While the FDA is not required to follow the recommendations of its advisory panels, it usually does. Contrave's PDUFA date, or approval decision, is scheduled by January 31. Expect volatility in the stock leading up to that date.

Disclosure: I am long OREX.

Source: Orexigen Approval Shows That Diversification Strategy Can Work