'When There's Blood in the Streets', Buy Biotech Stocks 13 comments
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History has shown again and again that times like these represent a huge long-term buying opportunity. This may be particularly true for the biotech segment that, despite weathering the storm better than other segments, has had its share of price declines.
During the past several weeks, great biotech stocks, from small early stage companies to fully commercialized companies have been thrown out of portfolios like bad auction rate securities, but the truth is that the value proposition of most of these biotechs did not change at all, and is not likely to change as a result of market conditions. This is why current prices create the best opportunity to get into the biotech segment since 2002.
In the past, the pharmaceutical segment served as a safe haven at times like these, based on the notion that drug sales, especially those for the treatment of serious illnesses, remain unaffected by recession. Unfortunately, most pharmaceutical companies are in the midst of an innovation crisis, where their traditional blockbusters are gradually being cannibalized by generic competition, so the next couple of years will be very challenging for them, recession or no recession. Consequently, investors may want to look for growth in the relatively new entrants to the field – biotech companies.
Biotech companies can be divided into two groups, each has its own merits and pitfalls.
The first group includes fully commercialized companies with a healthy balance sheet and cash generating products. These include all the big biotech companies such as Genentech (DNA), Amgen (AMGN) and Gilead (GILD). Because these companies can be found in every typical portfolio, they all got hit pretty badly from the recent sell-off due to indiscriminate panic selling. Nevertheless, the impact of an anticipated recession will have on these companies, who are selling drugs that address diseases such as cancer and AIDS, will be marginal.
The second group consists of smaller, development stage companies, with no commercially available drugs and several cash consuming development programs. The good news is that fundamentally, these companies have nothing to do with the global economy because they are not selling anything. The bad news is that they have to constantly find resources to finance the costly development of their drug candidates. Thus, the most important implication a market crisis has on this kind of companies is that it makes cash-raising almost impossible.
This is why investors should invest only in development-stage biotechs which have found a way around this problem. Some companies can generate cash from licensing their technology or intellectual property, some, like Array (ARRY) and Poniard (PARD) arranged a line of credit, some, like Seattle Genetics (SGEN), were smart enough to do a secondary offering under good market conditions, some, like Exelixis (EXEL) and Immunogen (IMGN), licensed some of their products and have someone else paying for the development.
Bearing in mind that in the foreseeable future, licensing of technology and products will be the preferred way of getting cash, it would particularly be wise to pay attention to companies with unpartnered assets that are generating robust data in clinical trials as well as to platform companies that can license their technology on a non-exclusive basis. Evidently, when small companies have one way of raising cash blocked, it might reduce their leverage position in the alternative route of partnering.
However, thanks to the pressure traditional pharmaceutical companies are currently under, they are starved for new promising candidates, which means that a good drug candidate still has tremendous value in the eyes of big pharmas. A good example for such a promising candidate is Rigel (RIGL) Pharmaceutical’s R788 that showed impressive results in treating rheumatoid arthritis, a disease with a market size exceeding $10 billion. Another good example for that may be Arqule’s (ARQL) ARQ-197, which already demonstrated its potential in a wide array of cancers and has a blockbuster potential.
In order to put this approach to the test, I asked Pontifax’s Ran Nussbaum for his help in building a virtual portfolio of promising biotech stocks. This portfolio is not intended for short term trading, but for long term investment of at least several years. Although we do not expect active trading in this portfolio, from time to time there may be changes as additional stocks will be added and existing holdings may be sold. Any future changes can be made only when markets are closed. On a more cautionary note, regardless of the attractiveness of all of these companies, all the inherent risks associated with biotech remain, including long time to market and statistically low success rates.
Biotech Portfolio as of October 9th 2008 (click to enlarge):
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This article has 13 comments:
It is getting killed along with everything else right now (19.7% above 52-week low and 43.2% off its 52-week high) so offers a compelling entry point. I know I've been buying!
Disclosure - long.
Jim Cramer has now done a 360 and advising people to sell everything, after hitting the buy,buy,buy bottom for years, and you are informing others about history and for people to consider biotechs now. But part of history is the depression to consider. At a time when global markets are plunging, I do not believe this is safe advice to publish. We are in a beginning stages of a global depression which will take years to possibly recuperate from. So investors are better off for now to hold onto their money, and use it for survival. It is bad out there and we are making new history Mr.Hammer.
I don't think it has a lot to do with guts, but basic common sense ( which seems to be a scarce commodity these days). History shows that people tend to exaggerate to both ways, and what we're witnessing, including today's selloff is merely a result of irrational behavior. Yes, things don't look good at the moment but in my opinion, now is the time to build positions selectively in segments and companies who can weather the storm. I think good biotech companies represent such a tremendous opportunity because their products and technology will always be in demand. Even companies who won't have a commercially available drug in the near future will be able to license drugs and technology to the pharmaceutical giants, who have deep pockets and are starved for new drugs. Remember: There is always a good market for good drugs.
I personally feel much more comfortable buying today, when all the fund managers and investors are dumping everything they have. They were the ones that accumulated all these stocks in the past year or two.
Ohad
I don't follow CYPB closely, but I think there is a lot of skepticism towards upcoming phase III results for milnacipran . Their cash position is enviable, no doubt.
Ohad
I am familiar with the company, but not intimately enough for having an opinion. The idea behind TNFerade is very exciting and has broad applications and the data seems pretty good in pancreatic and H&N cancers. Neverthless, I would be very hesitant in investing in the company before the update in pancreatic cancer, where nothing seems to work.
ohad