Going Out On A Limb: Expectations For Healthcare Stocks In January

by: Leonard Yaffe

The second week of January represents the gathering in San Francisco of everything healthcare.

The JP Morgan Healthcare Conference (those of us on the "other side of the mountain" remember it as Hambrecht and Quist!), and other conferences, provide investors with initial 2018 insights.

In 2016, biopharma stocks declined sharply in early January, while in 2017, they were little changed.

In my opinion, the outlook for the biopharmaceutical industry has never been more favorable, yet stock valuations, especially in the small and micro cap areas, do not reflect the prospects.  I therefore think the 50th anniversary of the "Summer of Love" will be followed by a winter of "Biopharmaceutical Love".

In January 2016, biopharmaceutical stocks declined sharply, and the relevant indices did not fully recover for nearly 18 months. In fact, the IBB now stands 5% below the level at which it closed out 2015. As I discussed in my 12/1/2017 article, we are on the verge of another great era in drug discovery. It is critical to realize that new technologies, i.e. monoclonal antibodies, RNAi, gene therapy, typically evolve over twenty years, and it is often not until the second generation that important advances are made.

Furthermore, many of these new discoveries are being made by lesser known companies, as opposed to the previous leaders in this area. Therefore, investors need to make a fundamental shift in philosophy and focus to a greater extent (not exclusively) on a new group of upstarts.

In immunotherapy, this includes Juno (NASDAQ:JUNO) and bluebird (NASDAQ:BLUE); in hepatology, Madrigal (NASDAQ:MDGL), Arbutus (NASDAQ:ABUS), Conatus (NASDAQ:CNAT) and Durect (NASDAQ:DRRX); and in gene editing and in gene therapy, Editas (NASDAQ:EDIT), Intellia (NASDAQ:NTLA), Crisper Therapeutics and Spark Therapeutics (NASDAQ:ONCE). In addition to these companies, I am also favorably inclined toward Aimmune (NASDAQ:AIMT) and Ardelyx (NASDAQ:ARDX). In the medical device and diagnostics sectors, I continue to recommend Intuitive Surgical (NASDAQ:ISRG), Illumina (NASDAQ:ILMN) and Foundation Medicine (NASDAQ:FMI).

Over the past 30 years, the pharmaceutical industry has made significant improvements as it relates to cardiovascular disease, immunology and hematology. Over the next decade, I forecast tremendous advances in cancer immunotherapy (initially hematology, followed by solid tumors), non-alcoholic steatohepatitis, RNAi-based therapy and gene therapy.

Historically, as one would think, the most profitable time to invest in a pharmaceutical stock is before the drug gets approved, assuming it is successful. This corresponds to the most inefficient period of valuation, as there are no prescription trends to monitor. I believe that, following a three to six-month validation time, the recently approved CAR-T therapies will exceed expectations (but that will not offset the decline in Hepatitis C revenues for Gilead (NASDAQ:GILD)). Regarding NASH, I remain impressed with the early results from Conatus and Madrigal. For Hepatitis B, which represents another unmet medical need, my investment choice is Arbutus.

I am expecting many company presentations in San Francisco next month to be well received. With small and micro-cap biopharmaceutical stocks still largely priced for "non-success," this should translate into favorable performance.

The biopharmaceutical sector is in a transition phase; the standard bearers of the first wave of drugs, including Regeneron (NASDAQ:REGN), Amgen (NASDAQ:AMGN), Celgene (NASDAQ:CELG), Gilead and Biogen (NASDAQ:BIIB), are in some cases going to be replaced, just as they overshadowed Merck (NYSE:MRK), Pfizer (NYSE:PFE), Lilly (NYSE:LLY) and Roche (OTCQX:RHHBY) over the past decades. Notably, AbbVie (NYSE:ABBV) has also risen to the forefront. While industry- focused investment funds can readily grasp this shift, generalists tend to take much longer to reconfigure positions.

As for the stock market, my December 2016 target for 2017 for the DJIA was 23,000. For 2018, I am forecasting 27,000. If correct, this will provide further support for a great investing year for healthcare stocks. As I have stated for several years, US healthcare spending will grow at an average annualized rate of 6% through 2030, at which time, it will exceed $7 trillion and will represent 25% of GDP.

Disclosure: I am/we are long ISRG, ILMN, FMI, CRSP, NTLA, EDIT, ABUS, DRRX, ABBV, JUNO, BLUE, ARDX. 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.