A Renewed Interest in Nanotechnology

by: Perry Sadorsky

A recent article in The Economist (August, 2, 2008, page 54) describes how Russia is trying to build a high technology economy. By designating the city of Dubna as a free economic zone (a zone where Russian high technology companies can legally operate and pay lower taxes), the Russian government is hoping to duplicate the success of Silicon Valley or Bangalore.

A number of different technology initiatives are being pursued, but one in particular, nanotechnology, has already received a lot of government funding. According to the article, in 2007 the Russian government put $5.5 billion into a state corporation for nanotechnologies. Nanotechnology is the science of manipulating materials at the atomic level. Developments in nanotechnology could have profound impacts on the cloths we wear, the food we eat, and the homes we live in. Nanotechnology offers the potential for enormous breakthroughs in computing, energy, and biotechnology. Does Russia's investment in nanotechnology signal a renewed interest in nanotechnology?

Some investors will remember the mini nanotechnology boom of a few years ago. Interest in nanotechnology was high in 2005 and 2006 and then quickly waned as investors realized that major breakthroughs in nanotechnology were, in some cases, many years off into the future.

There is also the question of what type of company an investor interested in nanotechnology should invest in. Investing in pure play nanotechnology companies is sometimes difficult because companies engaged in nanotechnology often tend to be involved in several different lines of business.

One approach is to buy a nanotechnology exchange traded fund [ETF] like the PowerShares Lux Nanotechnology Portfolio (NYSEARCA:PXN). This ETF invests in a group of companies involved in developing, manufacturing and funding nanotechnology applications. As of June 30, 2008 the top five holdings in the fund were Elan (NYSE:ELN) (6.39%), Flamel Technology (FLML) (6.22%), Headwaters (NYSE:HW) (6.27%), NVE Corporation (NASDAQ:NVEC) (6.11%), and Symyx Technologies (SMMX) (6.15%). The fund is primarily small cap in nature but does include some large cap companies. The fund currently has a price earnings ratio of 17.85 and approximately $86 million in assets.

Over the past year (August 21, 2007 to August 22, 2008) PXN is down 17.11% while the S&P 500 is down 11.32%. On a risk adjusted basis, using a capital asset pricing model and taking data from Yahoo Finance, a one percent increase in the S&P 500 leads to a 0.94% increase in PXN suggesting that PXN is actually slightly less risky than the S&P 500. This calculation, however, assumes a symmetric response between movements in the S&P 500 and movements in the PXN.

If separate risk factors are incorporated to allow for differences between increases and decreases in the S&P 500 then an interesting pattern emerges. On days when the S&P 500 rises, a 1% increase in the S&P 500 leads to a 0.85% increase in PXN. On days when the S&P 500 falls, a 1% decrease in the S&P 500 leads to a 1.02% decrease in PXN. When separate risk factors are included to allow for increases or decreases in the S&P 500, PXN moves up less (in percentage terms) than the S&P 500 on days when the S&P 500 is up but moves down more than the S&P 500 on days when the S&P 500 is down.

Currently there are not that many nanotechnology investors out there, but this is sure to change in the coming years. On a risk adjusted basis, it is interesting to know that, currently, investing in nanotechnology through PXN is slightly less risky than the overall market when the market is rising. Investing in nanotechnology through PXN is slightly more risky than the overall market when the market is falling.

Disclosure: None