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Time is right for these 7 biotechs
If you’re looking to build a portfolio from the seasonal biotech sector, now’s the time to do it. This two-part package should help you buy low -- just don’t forget to sell high.
By Jim Jubak
On Aug. 9, the Amex Biotechnology Index ($BTK.X) hit what is most likely a season bottom at 448. If this year is like most years past, investors can expect the sector to rally through September, pause, and then rally again from December through February.
Obviously, the rally isn’t guaranteed. One need look no further back than to 2001 for an exception to the rule. That year, the sector delivered its customary August rally but petered out prematurely on Aug. 27, beginning a decline that lasted until Sept. 24.
But in most years, biotechs decline in the spring as investors anticipate a summer hiatus in the conferences where new clinical results are announced. They rally in the fall as the conference schedule and the volume of news increases. Investing in biotech now fulfills one of my basic investing tenets, namely buy when the playing field is biased in my favor (and avoid it when it isn’t).
3 reasons now’s the time
I haven’t owned a biotech stock in Jubak’s Picks since I sold Icos Corp. (ICOS, news, msgs) on June 10, 2003, and I haven’t updated my biotechnology portfolio since 2002. But I think right now is a good time to both buy a biotech (I’ll be adding one to Jubak’s Picks with this column) and to put together a new version of that biotechnology watch list.
Why? First, seasonality. We’re entering the strongest period of the year for biotech stocks. Who says? Yale and Jeffrey Hirsch reach that conclusion in their book "The Stock Trader’s Almanac," as does MSN Money columnist Jon Markman in his book “Online Investing.”
Second, the sector pulled back from an April 26, 2004, high of 566 on the Amex Biotechnology Index to a low of 448 on Aug. 9 and has since moved up enough to give me confidence that this year has a strong chance of following the seasonal pattern. And third, big retreats in the prices of some of the sector’s leaders make it easier to put together a biotechnology portfolio that balances risk and reward.
Last time around, I argued for building a biotech portfolio by concentrating on companies with pipelines full of promising drug candidates and reducing risk by 1) making sure that these companies had plenty of cash, and 2) buying a basket so that any failures would be balanced out by successes.
This time, I’m advocating a strategy that builds a two-part portfolio with the first group made up of profitable, established biotechnology companies and the second part composed of the kind of pipeline-rich but unprofitable companies in my earlier portfolio.
Time for a new strategy
Why the change? First, the stock market is different today than it was two, three or five years ago. Investors are more risk-averse and more likely to want to see results before buying, rather than paying up for potential. That favors the profitable and more established companies. Also, these well-established biotechs have retreated from annual highs, which makes them more reasonably priced than they’ve been in a while, and they are likely to lead any recovery in the sector. Second, pipelines still pay. The stocks of companies that make the transition from owners of promising drug candidates to owners of promising drugs with U.S. Food and Drug Administration approval are likely to show the biggest pop over the next 12 to 18 months if the stock market recovers from its summer doldrums.
That’s an important “if” to keep in mind. If investors continue to shy away from equities because they believe stocks are too risky, then biotechnology stocks will not experience a sustained rally.
Now here’s my seven-stock, two-part biotechnology portfolio for the seasonal rallies.
Group No. 1: 3 big-cap and profitable biotech leaders
Amgen (AMGN, news, msgs) is down from its early February 2004 peak near $66, but the stock has been rebounding lately. Based on the strength of Amgen’s product lineup, I predict compounded annual earnings growth of about 20% through 2005. Using that forecast as well as projected earnings per share of $2.85, Amgen is currently selling for a price-to-earnings/growth rate (PEG) ratio of just about 1 -- historically cheap for Amgen or any stock with this kind of potential growth. The stock is as cheap as it is for a couple of reasons: Investors fear growth could be trimmed by reduced reimbursement benefits, and while Amgen’s pipeline of new drugs looks strong in the short and long term, the middle term is worrisome.
Related news and resources on MSN Money
Chiron (CHIR, news, msgs) is currently trading at just 21 times projected 2005 earnings, but valuation is not the likely catalyst for this stock. Instead, look to the upcoming fall and winter flu season to put a spotlight on this leader in the flu vaccine segment.
Genentech (DNA, news, msgs) wants to be the world leader in cancer drugs. The company’s stock dropped from a peak above $60 in April to $45 at the end of July. In August, the stock reversed course and appears to be building a base for the rest of the year. Tarceva, a promising lung-cancer drug from Genentech and its partner OSI Pharmaceuticals (OSIP, news, msgs), is likely to receive FDA approval in late 2004 or early 2005.
Group No. 2: 4 companies with no profits but potentially huge pipelines
Cell Genesys (CEGE, news, msgs) has a pipeline full of gene-therapy drug candidates for Alzheimer’s, Parkinson’s and Lou Gehrig’s diseases, but the nearer-term payoff comes from the company’s GVAX line of cancer drug candidates. I look for the first drug, for prostate cancer, to hit the market in 2008, with drugs for lung and pancreatic cancer to follow by 2011.
Incyte (INCY, news, msgs) shares have been clobbered after the company took about $50 million in restructuring charges to shut down its Palo Alto facilities. But the company ended its June quarter with about $470 million in cash. That’s an important number since it puts an effective floor under the stock near current levels (the company’s market capitalization is closer to $500 million). The company is just now moving to clinical trials with its first significant drugs. Its HIV drug has advanced the furthest so far and is in Phase 2 trials.
NPS Pharmaceuticals (NPSP, news, msgs) is showing signs of life with shares having nudged off the 52-week low of $16.48, about half the 52-week high of $36.61. The timing is just about right since the company is likely to release a bushel of news in the fall. Sensipar (or “Mimpara,” as it is known in Europe) for treatment of secondary hyperparathyroidism is likely to get approved in Europe in the fourth quarter of 2004. NPS Pharmaceuticals will present new data on Preos, the company’s osteoporosis drug, in an effort to widen the market for the drug in October. And the company is expected to see proof-of-concept results for its new migraine drug by the end of 2004.
Onyx Pharmaceuticals (ONXX, news, msgs) is valued at $1.3 billion by the stock market, way above its $240 million in cash and cash equivalents and an indication that Onyx Pharmaceuticals is well along the path that Incyte is just beginning. The company’s drug for advanced renal cell cancer is now in Phase 3 trials and the company is talking with the U.S. Food & Drug Administration about filing for approval based on complete Phase 2 trials. In addition, the company is about to start new trials for its drug for malignant melanoma in early 2005.
Remember, biotechnology stocks, even the big-name equities, aren’t stocks to fall in love with. They’re highly volatile and subject to huge seasonal moves. Buy low and sell high is definitely the strategy here. And this season is the time to think about putting it to work.
Changes to Jubak's Picks
Buy Cell Genesys
This is a highly speculative pick. It’s risky, in other words. But when you’re looking at the seasonal strength of the biotech sector in the fall and the kinds of worries that are bogging down drug stocks, speculative isn’t a bad way to go. A small stock like Cell Genesys will get more pop from any move up in the sector than its bigger brethren. And since the company’s leading drugs are still years from market, the stock price is driven by research news from the fall wave of medical conferences and not by worries over things like Medicare reimbursement.
Cell Genesys has a pipeline full of gene-therapy drug candidates for Alzheimer’s disease, Parkinson’s disease and Lou Gehrig’s disease. But the nearer-term payoff comes from the company’s GVAX line of cancer drug candidates. The first of those, for prostate cancer, is likely to hit the market in 2008, with drugs for lung and pancreatic cancer to follow by 2011. I’m adding the stock to Jubak’s Picks with a February 2005 target price of $16 a share.
New developments on past columns
3 techs that could buck the market tide
On Aug. 19, Marvell Technology Group (MRVL, news, msgs) reported GAAP earnings of 10 cents a share for the quarter that ended on July 31, 2004. Wall Street analysts base their estimates on pro forma earnings: On that basis, earnings came to 20 cents for the quarter, two cents a share above Wall Street projections. Revenue climbed to $297 million, a jump of 54% from the same quarter last year and a 10% sequential increase for the previous quarter. As of Aug. 31, given the weaker-than-I-expected performance of technology stocks in August, I’m stretching out my target price of $30 a share to December 2005 from the earlier September deadline.
Editor's Note: Jim will be on vacation for the next two weeks. While he’s out, a new Jubak’s Journal will be posted every Tuesday. Come September, Jubak’s Journal will resume its regular Tuesday and Friday schedule.
E-mail Jim Jubak at jjmail@microsoft.com.
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