How Risk-Averse Investors Can Capitalize on 2014’s Expected Record Drug Approvals

biotechnology stocksOne of the most spectacular performances in the stock market over the last five years has come from biotechnology stocks, and the NASDAQ Biotechnology Index continues to soar.

There are approximately 118 component companies in this index, which makes its performance that much more impressive. Its return has been broad-based and substantial, and it’s likely to have continued momentum until monetary policy changes.

Biotechnology stocks are 100% risk-capital securities. But because there’s so much money in pharmaceuticals, it’s an equity market sector that’s worthy of some effort if you’re a speculator.

There are two unique features to biotechnology stocks that are not necessarily as prevalent in the rest of the equity market: 1) they have a tendency to trade on their own corporate developments, with less correlation to the action in the broader market; and 2) because so many biotechnology stocks are not going concerns, meaning that they are not established businesses but development companies that have little prospect of immediate profitability, extreme price volatility is a certainty.

Over the years, I’ve considered a number of biotechnology stocks in this column. There are several standouts in this market that continue to provide excellent returns to stockholders.

One large-cap company that continues to distinguish itself is Biogen Idec Inc. (BIIB). This company developed a treatment for multiple sclerosis (MS), and while it is nowhere near a cure, the drug is helping treat patients with MS.

We first considered this stock near the end of April at $219.00 a share. The position consolidated for a while, then took off once again. Last month, when we looked at it, the stock was at $235.00; it’s now $290.00 a share, and the company is worth just less than $70.0 billion. Business is booming. (See “What Traders Love So Much About This Sector.”)

Another top wealth creator among large-cap biotechnology stocks is Alexion Pharmaceuticals, Inc. (ALXN). Alexion has only one approved drug called “Soliris,” which is the only treatment for patients with paroxysmal nocturnal hemoglobinuria (PNH), a rare life-threatening blood disease.

With a trailing price-to-earnings ratio of approximately 70 and a price-to-sales ratio of approximately 17, this stock is by no means cheap. But then again, like many biotechnology stocks, it has never been cheap and Wall Street analysts continue to increase their earnings estimates for the company.

In good markets, biotechnology stocks can grossly skew what most would consider reasonable expectations and reasonable valuations on the stock market.

But the big attribute that biotechnology stocks have is that they dance to their own tune. The rest of the world could be falling apart, but companies like Alexion and Biogen can still create enormous amounts of wealth for shareholders because the products they manufacture are entirely unique and there are extremely high barriers set in place that limit competition.

Biotechnology stocks aren’t for every investor, and that’s why an index of these companies may be a plausible strategy as part of an overall portfolio.

The NASDAQ Biotechnology Index has been so extremely strong the last few years; it’s definitely due for a correction. With a major price retrenchment, this index would be a buy, especially with 2014 expected to be a record year for FDA approvals.