Jan. 31, 2003 — By any measure, biotech stocks suffered a disastrous year in 2002. Mutual funds investing in biotech tracked by Standard & Poor’s incurred heavy losses across the board. The average biotech portfolio sank 43.6%, just slightly less than the NASDAQ Biotech index, which plunged 45.3%.
Aside from the harmful effects of weak global markets, biotechs were particularly hurt in 2002 by a string of disappointing clinical data from hitherto promising drugs, some negative actions by the Food and Drug Administration (FDA), the absence of an FDA commissioner for much of the year, and, most memorably, the debacle surrounding ImClone (IMCL) and its ill-fated cancer drug, Erbitux.
“Biotech is a high-beta sector and it’s been trading in disconcerting sympathy with the NASDAQ Composite,” said Jay Markowitz, a biotechnology analyst at T. Rowe Price funds. “Although biotechs have vastly different fundamentals from tech stocks, they have fallen with the tech sector.” Indeed, investors in biotech funds have been on a wild ride as the sector rose to dizzying heights in the late 90′s, only to plunge in the downturn after March 2000.
Making things more difficult for investors is the fact that the vast majority of biotechs are small and mid-cap firms with no products on the market and, hence, no earnings. “They have very few tangible assets, aside from cash,” Markowitz said. “The value of such companies is judged by the future promise of their products. Typically, these small biotech firms burn through cash and their stocks trade almost entirely on investor sentiment, which has been absolutely awful.”
One of the most disastrous events was the debacle surrounding ImClone and its cancer drug, Erbitux, which was rejected by the FDA, and raised questions of possible criminal behavior at ImClone. “This caused a ripple throughout biotech because it led people to question the veracity of management and the ability of new, inexperienced companies to perform the appropriate clinical trials,” Markowitz noted.
Samuel Isaly, manager of the $800-million Eaton Vance Worldwide Health Sciences/A (ETHSX), which has about 40% of its assets invested in biotech, believes the Erbitux fiasco “made investors more skeptical about investing in biotech.” And, given that Bristol-Myers (BMY) aggressively acquired a stake in ImClone, “it also made the big pharma companies more gun shy about entering into high-profile licensing and partnership agreements with biotech firms,” he says. [The Eaton Vance fund, which is not a 'pure' biotech portfolio, declined 25.9% in calendar 2002. Similarly, another health sciences fund with a significant stake in biotech, the $39-million SunAmerica Biotech/Health Fund (SBHAX) declined 36%].
Markowitz cautions, however, that these partnerships will not disappear. “The bottom line is that big pharma is always looking for the next big drug, and the biotech industry is a frothy source for those drugs,” he says. “The reality is that it takes 10 to 15 years to develop a new drug and anywhere from $500 to $800 million.”
Indeed, Deane Donnigan and Gareth Powell, co-managers of the London-based Munder Funds Bio Tech2/A (MBTAX), noted that three of their holdings, Amylin (AMLN), Exelixis Inc. (EXEL) and Neurocrine Biosciences (NBIX), recently signed significant partnerships agreements with pharma giants Eli Lilly (LLY), GlaxoSmithKline (GSK) and Pfizer (PFE), respectively.
With regard to the FDA, which is crucial to the health of biotechs, Isaly does not think the recent appointment of a new commissioner will accelerate drug product approvals in 2003. “There’s been a slowdown in approvals, but there’s also been a slowdown of applications,” he said. “I think one reason is that big pharma and biotech companies are more reluctant to move forward with non-novel drug candidates.”
“The FDA has a very difficult mandate to fulfill,” Markowitz noted. “Drug and biotech industry groups have been railing at the FDA for not approving drugs quickly enough. On the other hand, patient advocacy groups have criticized the FDA for approving drugs which turn out to be unsafe and have to be removed from the marketplace.”
Isaly points to a handful of prominent drugs that should come to market in 2002: ‘Cialis,’ an impotence drug manufactured by Icos (ICOS); `FluMist’, a nasally-administered flu vaccine from MedImmune (MEDI); `Amevive,’ a treatment for psoriasis by Biogen (BGEN); and `Fuzeon,’ an HIV drug made by Trimeris (TRMS). “These drugs should achieve annual worldwide sales of at least $500-million,” he noted.
The biotech industry is dominated by one company, the behemoth Amgen (AMGN), which represents about 22% of the NASDAQ Biotech Index by market cap weighting. (The next largest company in the index, Genzyme (GENZ), accounted for only 3.5%). Relative to its peers, Amgen actually outperformed in 2002, falling 14.4% for the year. The top-performing ‘pure’ biotech fund for 2002, Smith Barney Biotechnology Fund (SMBAX), had a robust 24.6% of its assets invested in Amgen.
Amgen became even larger last year when it completed its controversial acquisition of Immunex. While some scoffed at the $16-billion price tag for the deal, few questioned the value of ‘Enbrel,’ the blockbuster rheumatoid arthritis drug which Amgen got when it landed Immunex. “Enbrel is a trophy product,” Isaly noted. “We are convinced this drug will generate annual sales of several billion dollars. In this respect, Amgen’s price for Immunex was a bargain.” Even better, noted Donnigan and Powell, Enbrel has shown some potential in also treating psoriasis.
Going forward, Isaly believes the M&A activity in biotech will be fairly strong on 2003. “Typically, biotech companies are acquired when they are on the cusp of profitability,” he noted. “Since more biotech firms are moving towards that this year, they will likely be taken over either by big drug firms or bigger biotechs.” That could help give the sector a shot in the arm.
Standard & Poor’s currently counts only 13 mutual funds in the biotech universe, not surprising perhaps since biotech investing has been much more risky than investing in broader-based health care funds. That volatility may also help to explain why there are so few offerings in the biotech category from fund companies. Fund Advisor prepared the table below to show how ‘pure’ biotech funds stacked up against each other in 2002.
BIOTECH FUNDS2002 Return
- Smith Barney Biotechnology/A (SMBAX) -39.3%
- PIMCO Funds:RCM Biotechnology Fund/D (DRBNX) -40.0%
- Fidelity Select Biotechnology (FBIOX) -40.5%
- Orbitex Health & Biotechnology/A (ORHAX) -41.5%
- Franklin Biotechnology Discovery Fund/A (FBDIX) -42.5%
- Alliance Select Inv Srs:Biotechnology/A (ASBAX) -44.3%
- Rydex Srs Tr:BioTechnology Fund/Inv (RYOIX) -45.6%
- Munder Bio Tech2 Fund (MBTAX)-46.7%
- Excelsior Biotechnology Fund (UMBTX)-48.4%
- ProFunds:Biotechnology Ultrasector/Inv (BIPIX) -53.7%
- Monterey:Murphy New World Biotechnology Fund (MNWBX) *-55.8%
- Amerindo Health & Biotechnology Fund/A (DNAAX) -58.5%
- World Funds:GenomicsFund.com (GENEX) -61.5%
*to be liquidated
Source: Standard & Poor’s. Total returns are in U.S. dollars and include reinvested dividends. Data as of 12/31/02.