Biotechs Still a Trader’s Paradise?

Key to Success in the Biotech SectorOne of the most speculative parts of the equity market is biotechnology. These stocks come to market generally overpriced, and they usually require a lot more capital to develop anything material.

But while investment risk is super high with these stocks, a drug that’s in demand and has high barriers to competitive entry can pay off tremendously.

One company that fits this scenario is Alexion Pharmaceuticals, Inc. (ALXN) out of Cheshire, Connecticut. The company’s main offering is “Soliris,” and it’s a huge moneymaker.

Soliris was approved for use in the U.S. and European Union markets in 2007, and then in Japan in 2010. It’s the only drug that helps in the treatment of patients with a rare blood disease called paroxysmal nocturnal hemoglobinuria (PNH), which is a genetic disorder.

It’s a growth story we’ve looked at before in these pages, and with consistency, share price retrenchments have been buying opportunities.

According to Alexion, net product sales of Soliris were $567 million in the first quarter of 2014, compared to $339 million for the same quarter in 2013.

The company generated GAAP net earnings of $159 million, or $0.79 per share, in the first quarter of 2014, compared to GAAP net earnings of $82.0 million, or $0.41 per share, the year earlier.

The company finished the first quarter with $1.55 billion in cash and full-year 2014 non-GAAP earnings-per-share guidance was raised to $4.75 to $4.85 per share from the previous $4.37 to $4.47.

Alexion’s share price definitely got caught up in the recent speculative fervor affecting the biotechnology sector and was a worthy sell for profit-taking and risk management purposes.

The position is somewhere around 20 points down from its previous record-high, and I wouldn’t be surprised if it climbs back up there, even though the company is very expensively priced.

One-time wonder-drug companies can often keep their stock market price momentum for considerable periods, as Alexion illustrates. (See “Can the Rally in Biotechs Keep Its Momentum?”) This is why, for risk-capital speculators, constant perusing of 52-week highs set in this sector is a worthwhile endeavor.

There is still a lot of money swashing around these stocks, and it’s a good place to be for the most aggressive traders.

And that’s what these stocks are—trades. Smaller biotechnology stocks are replete with extreme price volatility. Periods of genuine drug development and stock market success are easily reversed. And it’s all beyond your control as an investor, with so many variables that affect the potential outcome.

Therefore, a heavy dose of risk management is appropriate with these positions, and none of them should be considered appropriate for conservative equity portfolios.

Like all capital markets, speculative fervor is perpetually changing and enthusiasm for a particular group of stocks goes in and out of style.

Due to the inherent investment risk with biotechnology stocks, only a small portion of risk capital should be allocated to the sector from a portfolio perspective.

With this in mind, as an industry, the amount of capital that’s thrown at it by institutional investors is significant simply because the potential rewards in successful drug development are so great, as Alexion so perfectly illustrates.