• Investors embraced biotech stocks during early stages of the Covid-19 pandemic but economic concerns have seen heavy sell offs in the growth sector
  • Slower US FDA drug approval and M&A constraints have further put pressure on the sector
  • With a growing ageing population and ongoing need for novel treatments, long-term prospects for biotech remain bullish

To health, wealth and happiness is a traditional toast. Fortunately, for a range of reasons, including advances in medical care, the human race is living much longer.

According to the World Health Organisation by 2030, 1 in 6 people in the world will be aged 60 years or over, increasing from 1 billion in 2020 to 1.4 billion. By 2050, the world’s population of people aged 60 years and older will double (2.1 billion). The number of people aged 80 years or older is expected to triple between 2020 and 2050 to reach 426 million.

Advances in healthcare are becoming more important as the global population, and in particular the ageing population, grows. As the world was brought to a standstill by Covid-19, which has surpassed the 1918 flu as the deadliest pandemic in US history, biotech was brought to the fore as the world looked for a vaccination and treatment.

Pfizer, AstraZeneca, Moderna became household names. The S&P Biotechnology Select Industry Index rose 34.8% in 2020, as investors embraced the growth potential of biotech.

There was especially strong investor support for any pandemic related developments in the areas of vaccines, treatments and personal protective equipment.

But as inflation has taken hold along with rising interest rates and concerns about long term economic growth globally, growth stocks including the biotech sector has been sold off hard as investors move to more value oriented stocks.

Correction biotech had to have

The listed biotech sector has been sold off hard over the past year. The S&P Biotechnology Select Industry Index fell 15.8% in 2021 and ~38% so far this year.  While there’s not an equivalent index in Australia,  the S&P/ASX 300 Healthcare Index is down ~8% and doesn’t include the small clinical stage biotechs which have been hit hard.

S&P/ASX 300 YTD performance

Source: Bloomberg

ETF Securities head of portfolio management Cliff Man said the correction in the sector is overdue in response to a flood of early stage, high risk companies that listed in recent years.

“The number of publicly listed biotech companies has doubled since 2015 and with record low interest rates prompting investors to back growth assets, there were eager buyers,” he said.

“A more sober reappraisal of the prospects for these companies triggered the beginning of the sell-off in 2021, while rising inflation and interest rates, plus tougher regulation of the biotech sector, has added to the bearish sentiment.”

ETF Securities Head of Distribution, Kanish Chugh, said the cycle of peak to trough is nothing new for the biotech sector.

“Over the past decade we’ve seen investor enthusiasm for biotech’s limitless potential send prices surging well above the S&P 500, only to be reversed as assets implode and investors flee the sector,” he said.

US FDA approvals  down, while M&A activity hits hurdle

When it comes to investing in biotech, Man said there are two critical price drivers to look at in the US, which has a much larger biotech exposure.

1. How quickly the US Food and Drug Administration (FDA) are approving drugs

“Most biotechnology companies are reliant on one or two drugs which they have in the pipeline so the quicker the FDA is able to get their approval out is massive,” Man said.

“If the FDA is only approving a few drugs there may be concern among investors as to whether these companies can convert their research into a product.”

So far this year there has only been 16 novel drugs approved by the FDA compared to other years:

  • 2019  – 48
  • 2020 – 53
  • 2021 – 50
  • 2022 – YTD 16

To add to the slow approval problem by the FDA in recent times has been political upheaval in the US. A permanent FDA Commissioner position was confirmed 13 months after President Joe Biden took office.

“When we look at the biotech sector we always go to the US FDA website and see how many drugs they approve each year and the most important are the novel biotechnology drugs and the slower it is the riskier people will perceive the sector,” Man said.

2. Biden curtails M&A activity

“Most of the biotechnology firms own one or two drugs in their pipeline and are usually quite small so merger and acquisition becomes a vital path to exit their business and monetise their work,” Man said.

“A smaller company will either merge with a bigger one or license their drugs to bigger pharmaceutical companies to do the distribution and so on.”

However,  since Biden took office he has been skeptical of M&A activity and big pharma becoming too big with monopolistic practices.

“Slower M&A in the biotech sector translates in the lack of monetisation as it’s harder for the smaller guys to sell their research and work,” Man said.

“M&A is a tough one but it will be about the industry convincing the current administration that it needs to happen or smaller companies will fail for lack of money.”

Why biotech will pop again

But ETF Securities along with other financial services firms such as Morningstar remain bullish that the health sector could lead to long term wealth and happiness for investors.

The sector after all is a long term favourite of investors  and there will always be a need for novel health treatments. In essence, there are three certainties in life  – death, taxes and the biotech sector popping +30pc.

Chugh said the long-term investment case for biotech is unchanged. He said advances in healthcare only become more important as the global population, and in particular the ageing population, grows.

ETF Securities’ ETFS S&P Biotech ETF (ASX Code: CURE) tracks the S&P Biotechnology Select Industry Index, with a portfolio of more than 150 stocks – most of them listed in the US.

Top holdings include lung disease specialist United Therapeutics, oncology therapy developer Halozyme Therapeutics and neuroscience specialist Alkermes.

“If history is any guide, the question is when, not if, the sector will recover,” Chugh said.