We have a special way of looking at stocks and ETFs
If you have seen this explanation before, please jump to the next bold-faced headline.
Technology advances in communications and information have transformed the way securities markets operate, and the way major investors behave as a result. Prices of equities now normally gyrate during one-year elapsed periods in ranges that are typically multiples of the underlier's trend growth.
Which means that during part of the year period their prices are retreating, and are consuming investments of time which cause the "growth" trend rates to be far less than what their better progress periods provide.
Advances in information technology encourage investment professionals (the market-making [MM] community) to protect the capital they must put at risk to do their jobs. Those actions cause the markets for equities and derivatives to become more integrated than they were in much of the 20th century.
So we study what the Pros' behavior causes to happen in the price-change "insurance" derivatives markets, to understand just how far it is reasonable to believe specific stock and ETF prices may move, both up and down, in the next few months.
This analysis has been conducted without material change daily for over a decade on more than 2500 widely-held and actively-traded stocks and ETFs. The resulting price range forecasts provide an actuarial history (unmatched elsewhere in the investment community) of subsequent market prices, as testimony to the strength or weakness of the forecasts made earlier.
Near-term price gains are most important to investors who are now either starting out in building a portfolio's wealth and exploring how it may best be done, or to investors who have come to realize that plans made years earlier are unlikely to be met at current rates of investment wealth accumulation.
Active investing, where capital is constantly put to work in the best odds-on situations to deliver profit within foreseeable time horizons, is the strategy most likely to produce what is needed, at least risk. But active investing needs guidance as to what to do, when to do it, and with what intensity.
Active Investing in Established Biotechnology Stocks
Established Biotechnology stocks at this time are interesting vehicles for Active Investing as a strategy for several reasons. The supporting sciences of genetics and nanotechnology continue to advance, offering myriad breakthrough possibilities in approaches to alleviate various forms of human suffering.
At the same time poor profiteering choices by a few companies have turned public attention to the entire industry at a time of national elections, making political promises of severe regulation a vote-getting magnet for some candidates.
Depending on who gets elected, the healthcare sector at large may come under an ill-advised cloud of additional regulatory attention and expense, compounded by revenue restrictions. Until the elections are over uncertainty is the order of the day.
Still, the potentials for worldwide lifetime benefits from advancing understanding of living beings, animals and plants is a continuing attention draw, motivated by curiosity, egos, personal recognition, and profit prospects. The established biotech firms typically have the financial resources to live through periods of political adversity, but their share prices may experience setbacks and drawdowns temporarily.
Newer biotech ventures tend to have continuing cash-burn considerations, which in many cases have proved to be fatal, particularly when accompanied by research and product development failures. For that reason we are separating the publicly-owned biotech companies arbitrarily into the length of time for which we have available price-range forecasts from our market-maker sources.
Any stock with less than three years (756 market days) of forecasts is being reviewed separately, in parallel to this survey of the companies with as many as 5 years of forecast history.
Interim setbacks and failures keep opportunity valuations in flux among many enterprises. Physical development times and marketing efforts under government regulations and peer review progress vary across international boundaries. Competitive pressures from new organizations' blossoming successes can impact established firms.
Imperfect understanding of the underlying economics by investors, goaded by opportunistic enthusiasm, can create excessive stock price evaluations. Or may lead to undue interim discouragement.
Figure 1 looks at the market activity and dimensions of the Established Biotechnology stocks, all of which pass our screens of comparability and attractiveness to institutional investors. There are some three dozen of them, and are ranked simply by market capitalization size. Those sizes range from over $100 billion to a small fraction of $1 Billion.
source: Yahoo Finance
Some perspective on this data lies at the bottom of the table. There averages of the more significant columns are compared with their largest and smallest components, and with the same dimensions of the market average NYSEARCA:(NYSEARCA:SPY).
Many of these stocks are fairly illiquid, given their size, when looked at from a capital investment turnover point of view. Total group market capitalizations are $584 billion. The average Established Biotechnology stock takes about 9 months to trade its entire stock capitalization. The extremes exceed 5 years. In contrast, the market proxy ETF, SPY turns over its $200 billion market cap in two weeks, $20 billion a day.
The market activity should be strong enough to make transaction trade spreads of little concern, but institutional interest ("sponsorship" in street terminology) is typically limited to a few big-cap names. After-hours trades often ambush careless investors with opportunistic, unrealistic and costly trade spreads.
Past year prices have volatile ranges, with highs averaging 155% above lows. The most placid stock ranged +27%, while the worst-case stock, Clovis Oncology (NASDAQ:CLVS), saw a $99 investment get crushed to $30 in one day as a leading product trial reported negative experiences. In the other direction, Tesaro (NASDAQ:TSRO) popped to a double in one day from $37 to $77, and sprinted in the next week to $92. Currently it is $115, providing the bait that makes the group the attention-leading sector among investors.
But so much for history, what is yet to come?
A caution for this group at large is their average P/E ratio, which is actually a P/L ratio: The group at large is operating at a per share loss, rather than per share earnings. Average P/Es now are a myth, with losses per share being frequent.
The street (sell-side) investment analysts offer 1-year price targets for many of these stocks directly, and others are imputed from current P/Es and estimated 1-year EPS collected by Yahoo Finance. On average these targets are above present prices by +8%.
But street estimates for the future are tinged with employer conflicts of interest, a condition unfortunately displayed many times in the past.
We find a much more reliable set of future price estimates coming from the same employers as they act in a different, but essential role. That role is as negotiators for big-money investment funds attempting to adjust the holdings in their portfolios.
Due to the clients' typical $-billion portfolio sizes, multi-$ million trades would flash-crash the automated transaction system of "regular-way" trades. So such "block trades" must be negotiated between clients issuing desired trade orders and other prospective big-money investment funds to be on the other side of the trade.
It is rare to be able to "cross" the desired volume of shares at the limit price specified by the trade-originating client, so the market-maker [MM] may become a principal in the trade temporarily, picking up a long or short "stub end" of the block. But that is done only when an acceptable hedging deal can be arranged to protect the MM's capital put at market risk.
The cost of that price insurance is borne by the trade-originating client, so it must not be so large as to kill the trade. So the terms of the hedge, which define the outer limits of near-future prices of the subject stock in the block trade order, are a consensus of all three parties, the trade originator, the MM, and the seller(s) of the other side of the hedge.
It turns out that the sellers of the price protection hedge are often the proprietary trade desks of other MM firms, who are as equally well-informed as the MM firm negotiating the block trade.
Thus we have specific, honest unbiased forecasts of future price limits, both up and down, motivated by the self-serving competing interests of the participants in an open-market negotiation.
Those limits can help define prospective investment reward and risk on an issue-by-issue basis that is directly comparable between alternatives, regardless of their underlying competitive or economic circumstances. Those essential minutiae have been subsumed in the hedging negotiations.
Figure 2 uses those forecasts in making comparisons of price Risk vs. Reward tradeoffs between alternative investments.
(used with permission)
Each stock or ETF is positioned in this map by its intersection of upside price change forecast on the green horizontal scale and experienced price drawdown exposures (on the red vertical scale) typical after prior forecasts like today's. Any issue above the dotted diagonal has more potential risk than return at its present price.
A market-reference by SPY is at . Notably, none of the Established Biotechnology stocks has less downside risk than SPY. But all of them have higher reward prospects along with their greater price drawdown exposures.
The most opportune on a reward-to-risk basis are Amgen (NASDAQ:AMGN) at  and Qiagen NV (NASDAQ:QGEN) at . Regeneron (NASDAQ:REGN) at  and Gilead (NASDAQ:GILD) at  push the risks and reward prospects each a step higher. But nowhere in sight here are the kinds of attractive tradeoffs seen in many other maps of this type where securities approach or enter the appealing green area of 5 to 1 or better tradeoff ratios.
Since price-change risk is a dynamic, not a constant, in time these exposure relationships will change. It is these changes that provide fresh opportunities for active investment capital gains on a shorter-term recurring basis. Besides just the downside price exposure, there may be other investment attributes investors will want to consider. Figure 3 provides some of these.
Columns (5) and (6) are the source for Figure 2 coordinates. The (7) metric tells what % of the (2) to (3) range lies below (4). It discriminates among column (12) prior forecasts to select the similar sample from which columns (8) to (14) data is provided. (13) compares (5)'s promise with (9)'s prior delivery; (14) compares (5) to (6). (15) is a figure of merit combining the several qualitative measures into an odds-weighted, risk-conditioned number.
For this exercise we ranked the top equity interests by the (15) figure of merit. At the bottom of the table, in blue, we have averages for the 38 Established Biotechnology stocks, along with a forecast population of ~2500 stocks and ETFs. Also included is an average of the currently best-ranked 20 issues from that population using the (15) figure of merit. The current parallel statistics for market-average SPY are also present.
A comparison of the ten best Established Biotechnology stocks data with the 20 Best-Odds issues from our forecast population provides some interesting contrasts. The Biotechs have both higher upside price change prospects, +17% vs. 9.7%, and higher prior price drawdowns following forecasts like today's in each case, -10% compared to -6.5%.
But the top20 produced 9.4% net payoffs from their prospective +9.7% upside targets. The Established Biotechnology stocks were far less credible, delivering only about half of the expected +17% upside. Part of the difference was due to the top20's Win odds at 85 out of 100, while the biotechs only won 75 of each 100. As the 20 got to their payoffs in a week's less time than the biotech 10, 39 market days instead of 44, their CAGRs were at a +78% level, while the biotechs produced +64% gains.
If the +64% is repeated in coming weeks and months that's far better than a buy&hold in SPY at a +18% prospective CAGR. But it's not as good as it might be when invested in the top20.
We regard the 20 Best-Odds Forecasts from the population of 2600 forecast-able equity securities as the competition in any capital commitment contest to improve a portfolio's prospects. Since Figure 3 is ranked by (15), the average of the 20 Best of (15) at 31.1 is a bogey of sorts. If half of the 20 Best (15) of 15.6 might be a lower limit, only two of the Established Biotechnology stocks in Figure 3 is worth potential consideration as a capital commitment candidate.
To make the comparison clearer, the best-ranked of the group, Regeneron Pharmaceuticals and Biogen, Inc. (NASDAQ:BIIB) have figure of merit scores of 24 and 20, well within the desirable level. Just be careful not to confuse Repligen (NASDAQ:RGEN) with REGN . Repligen is no Regeneron as an investment at this time.
You may find our parallel report on the newer, less mature biotech stocks an interesting contrast to these established stocks.
We every day examine and rank over 2,500 stocks and ETFs to find the most promising 20. No guarantees, but so far in 2016 some 3,000 of these top 20s have shown position closeouts at a CAGR rate of +31.1%, while SPY as a buy&hold has logged only +6.4%.
These best of the forecast population are what we regard as the competition, against which other investment candidates should be compared. At this point in time the other Established Biotechnology stocks fall short of being competitive.
Additional disclosure: Peter Way and generations of the Way Family are long-term providers of perspective information (earlier) helping professional and [now] individual investors discriminate between wealth-building opportunities in individual stocks and ETFs. We do not manage money for others outside of the family but do provide pro bono consulting for a limited number of not-for-profit organizations.
We firmly believe investors need to maintain skin in their game by actively initiating commitment choices of capital and time investments in their personal portfolios. So our information presents for their guidance what the arguably best-informed professional investors, revealed through their own self-protective hedging actions, believe is most likely to happen to the prices of specific issues in coming weeks and months. Evidences of how such prior forecasts have worked out are routinely provided. Our website, blockdesk.com has further information.
Disclosure: I/we 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 (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.