How Much Lower Can Biotech Go?
The S&P Biotechnology Select Index started the week deep in the red, re-testing the annual lows nearly 65% below the February 2021 peak. (12/31/2021 to 6/10/2022):
The longest and deepest pullback in biotech history has many investors wondering if the business model is broken. Therapeutics products have traditionally been counter cyclical, especially those addressing critical medical needs with limited alternatives. High margins and regulatory scrutiny of manufacturing processes of complex drug products leads to the majority of these products being produced in developed countries. The supply chains and delivery logistics are generally quite robust and have been largely immune from headwinds facing broader consumer products. Thus, the big picture business prospects continue to look favorable regarding demand, logistics and margins (see last week's digest for commentary on the low expectations for meaningful drug pricing legislation near term).
The key question becomes the rate of success of product development. Over the past decade the average number of novel drug FDA approvals per year is approximately 40 annually. Clearly this is a small fraction compared to the many hundreds of discovery programs being run at biotechnology and pharma companies over that timeframe. The post pandemic financing boom led to the expansion of the number of biotech companies (and discovery programs funded) to levels never before seen, especially those at early stages with high risk profiles. It should be expected that many of these companies will burn through all their cash without anything to show for it, but the subset of companies with successful programs have the potential to create non-linear value for patients and shareholders.
Over the past few trading days, both Cogent Biosciences (COGT) and Day One Biopharmaceuticals (DAWN) rallied >100% upon announcing new clinical data that led analysts to believe their respective oncology drugs offer a clear benefit to patients and will likely be approved. (Below from 3/31/2022 to 6/14/2022):
If there was ever a time for active biotech fund managers to differentiate performance through stock selection, this is it.