Andrew Lo, professor of finance at the MIT Sloan School of business and money manager (AlphaSimplex), believes that Wall Street-style financial engineering can hasten cures for cancer and other diseases while providing healthy returns to investors.
During an MIT Sloan webcast on Thursday, Lo said that preliminary research conducted by him and his colleagues indicated that a “mega” primary research-focused fund could produce returns to bondholders of 5% to 8%, while equity shareholders could expect returns ranging from 8% to 12%. An investment fund with interests in perhaps hundreds of research projects could also provide investors with returns not correlated to the S&P 500.
While short on some of the specifics of the fund, Lo said during the webcast that it would use some of the main tools that were behind the 2008-2009 financial crisis — securitization; collateralized debt obligations and credit default swaps — to manage risk while providing returns to investors. Those tools, Lo said, “worked too well” in the crisis, partly by focusing solely on U.S. residential real estate, while “applied to cancer research, the impact could be huge.”
Lo said during the webcast that a mega-fund would employ the lessons of modern portfolio theory: “by taking a lot of projects and bringing them into one vehicle, you’re increasing the chances of a breakthrough while lowering risk.”
The preliminary research took place in the MIT Laboratory for Financial Engineering (which Lo heads) in 2012, with findings reported in a paper published that year titled “Can financial engineering cure cancer?” With co-authors Jose-Maria Fernandez and Roger Stein, Lo’s research concluded that it is possible to use financial engineering tools to at least jumpstart biomedical research into the causes of and finding cures for diseases like cancer.
Traditional funding vehicles — either private or public equity — were not ideal for various reasons, such as the very long lead time to produce revenue and the high probability that a single research project could fail. The risks are high for basic research and then bringing any products, like drugs, to market, because of the complexity of the research, the long periods of time required by the Food and Drug Administration for product trials, and the dangers caused by a patent cliff, when a pharmaceutical firm’s revenues could fall sharply once one of its drugs loses its patent.
The solution, according to the paper, is large, pooled vehicles that lower risk by investing in scores, even hundreds of research projects. Such diversification makes it possible to sell longterm debt to investors, who would not need the return of their capital immediately but would receive interest payments. By building a “mega-fund” that would allow greater participation by investors — scaled up to between $5 billion and $30 billion, and with the financial technology and institutions that already exist, such a fund could be successful. Such a “multibillion-dollar investment,” Lo said the paper found, would return 5% to 8% for bondholders and “8% to 12% on the equity side.” A fund that focused on ‘orphan diseases,’ defined as conditions that affect fewer than 200,000 people, could be more effective in finding cures while requiring a smaller pool of capital and also delivering higher returns to investors. “By the nature of orphan diseases,” scientists have a better chance of identifying their causes and developing treatments, he said. Such a fund would require “a couple hundred million dollars” to fund research on “10 to 20 projects,” with returns to investors ranging from 15% to 20%. Such a fund, with returns not correlated with the S&P 500, would be of interest not only to venture capitalists but “a lot of hedge funds as well.”
As for the mega-fund to support cancer research, Lo suggested that the risks associated with the investing would lend itself to a limited partnership rather than a public vehicle. However, since so many individual investors have been affected by cancer, Lo said “eventually individual investors will want to get involved.”
The timing is right, Lo said, since funding from the National Institutes of Health and the private sector has decreased: “Money is actually leaving the space.”
The “frustrating thing” about that funding decline, Lo said, is that “every week cancer researchers are making great discoveries,” and that “we seem to be at an inflection point for curing many diseases,” in particular, cancer.
While Lo declined to say investing in a cancer research fund constituted “impact investing,” he did say that he was hoping to show that “finance doesn’t need to be a zero-sum game.”
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