Signs of recovery in biotech?
Biotechnology stocks have endured a historic sell-off since early 2021. But rock-bottom valuations, positive clinical trial data, and clarity around drug pricing reform could help reignite investor enthusiasm for the sector, says Portfolio Manager Andy Acker.
6 minute watch
- The biotechnology sector has declined by as much as 75% relative to the broad equity market since early 2021, its largest drawdown on record.
- Many companies now trade below the value of the cash on their balance sheets despite, in some cases, having promising pipelines and/or new drug launches.
- The combination of low valuations and ongoing innovation has led to a pickup in mergers and acquisitions and capital raising, which could signal the beginning of a recovery. Recently passed drug pricing legislation could also reduce uncertainty for the sector.
View the full video on Janus Henderson’s YouTube channel.
Health care industries are subject to government regulation and reimbursement rates, as well as government approval of products and services, which could have a significant effect on price and availability, and can be significantly affected by rapid obsolescence and patent expirations.
S&P 500® Biotechnology Select Index reflects the performance of companies primarily engaged in the research, development, manufacturing and/or marketing of products based on genetic analysis and genetic engineering similar characteristics.
Carolyn Bigda: Andy, the biotech sector has been stuck in a bear market for quite some time now. Are we seeing any signs of improvement yet?
Andy Acker: Yes, so a bear market would be putting it mildly. So, you know, the biotech sector is one that is extremely volatile. So, the S&P Biotech Index, which was created in 2006, has had multiple bear markets, or corrections of at least 20%. But this one has been much worse than any we’ve seen before. On average, these stocks had fallen 20% to 30%. This time, we saw a 65% correction. But even worse, on a relative basis, you know, from February of 2021 to June of 2022, we had a drawdown on a relative basis to healthcare and the market of about 75%. So that’s really unprecedented. Now that, we think, creates the opportunity. So, we got to a point where over 200 companies were trading below the levels of cash on their balance sheet. And we’ve never seen that before.
When we see conditions like that, we think it’s a very attractive time to be investing in the sector. And one of the things that we thought would turn the market is M&A activity. And if we look at the top pharmaceutical companies, you know, many of them are facing significant patent expirations that will result in substantial loss of revenues later this decade. And so many of those companies need to replace those revenues, and M&A activity is a great way to do it. And so, we’ve actually seen that start to pick up. We’ve had several deals announced in just the last few months. And these are coming in not just 20% or 30% premiums, but more like 80% to 100% premiums. So, we’re starting to see that pick up.
And then we’re also seeing some good clinical data. We’re seeing progress in areas like breast cancer, obesity, schizophrenia, a major form of heart failure. We’re seeing, you know, very positive data, and then stocks actually going up meaningfully based on that data. Some of these stocks are going up you know on positive data, and then able to access the capital markets. So capital markets starting to reopen, clinical data starting to turn positive, M&A activity starting to pick up. We think all of these are positive signs of a thaw that we’re seeing in the biotech market.
Bigda: Finally, we had drug pricing legislation signed into law recently in the U.S. That’s been an overhang for the sector for a while now – the question about what drug pricing reform would look like. What’s your take on it?
Acker: Yes, so we finally did get drug pricing reform passed. It’s been an overhang, especially for the last six years, but even for the last, you know, almost 30 years, it’s been talked about for a long time. So, now we at least have some clarity about what this is going to look like. And we think overall, it’s manageable.
The best aspect of it is actually making therapies more affordable for patients. And so, one of the areas where there’s a real improvement here is by limiting the amount of out-of-pocket costs for seniors to no more than $2,000 per year. There are some seniors today that have to pay more than $5,000 or $10,000 out of pocket for life-saving therapies. And that should just never be the case. There’s also limitations on the amount of inflation that you can have on drug therapies. And I think that can really help remove the bad actors who were aggressively raising price.
And then the third aspect is with drug price negotiation. And this is probably the most controversial aspect. Some of the initial proposals we think would have been extremely damaging to the industry. We never thought those would go through, and fortunately, they didn’t. But the biggest part that we worry about – and we hope this will ultimately get fixed – is that Congress treated oral therapies, which are pills that you can take at home, very differently than biologics, where you have to go in and get an infusion, for example, or large molecule therapy. So, the biologics would not have any negotiation until 13 to 15 years on the market, and we think that’s very manageable for the industry. On the other hand, oral therapies for seniors, like cancer therapies, would face negotiation after only nine years, and we think that’s problematic for the industry. Because, really, two things: One, that could shift investment away from oral therapies towards biologic therapy. And second, it has the potential to delay launches. So normally, you would try to get a cancer therapy on the market as quickly as possible, and that’s often for late-stage cancer patients who really have no hope but because those are much smaller market opportunities – and they would start the clock after only nine years – you might see delays of new launches until larger indications are completed, larger clinical trials. So, that could delay cancer launches by two or three years, and the cancer patients are waiting. So, this is something that I think is a real issue with the reform, and we hope that that can get fixed before it has an impact on investment in therapies for seniors, like cancer therapies.
Bigda: So, more work to be done but hopefully, something that is manageable.
Acker: We think it’s overall manageable, and if we can just fix this one aspect where we treat those two kinds of therapies the same, then I think it’ll actually be pretty good legislation.