How biotechnology investments can support hedge funds

What are biotech companies?

Biotech companies predominantly use biotechnology to produce, design and deliver their products. These products can be sold all over the world to various sectors, such as medicine to agriculture.

Biotechnology can also be services-focused: clinical data trial management software is a good example of this. However, biotech companies must obtain regulatory approval before they can start marketing and selling their products in their relevant jurisdiction. For example, just because something has been approved for the U.S market, doesn’t mean it will be approved in the E.U or Australia.

Should hedge fund managers consider adding biotech stocks to their portfolios?

While some hedge fund managers are already investing in new biotech stocks or starting portfolios to try and 'buy the dip' - anyone who has been following this industry closely for a while will probably be aware that there has been a lot of speculation about whether we are in a ‘golden age of biotechnology’ (this has been happening since at least 2013).

More recently, in September 2021, the Investor Chronicle reported that while the sector underperformed in 2021, relative to many other stocks, asset manager Baillie Gifford argues it is 'at the cusp of transformation', implying there is plenty of long-term growth potential. Although prices dipped sharply in the first half of 2022, this hasn’t stopped hedge fund managers investing in the hope that prices might be bottoming out and poised for a recovery in the near future.

How badly have biotech investments done during the first half of 2022?

In the first half of 2022, the Nasdaq Biotechnology Index - the benchmark for the US biotechnology sector fell by over 20%. The index has lost a third of its value since reaching an all-time high in August 2021 (source: Google), and many biotech companies are finding it hard to raise money.

But what about the longer-term picture?

Between 29th, June, 2012 and 1st Jul, 2022, the Nasdaq Biotechnology Index rose from 1,351.63 points to 3,830.44 - an increase of over 280%.

That’s not a bad rate of return during a period that has been close to disastrous for cash savers but hardly a golden era for investors either, but, from November 1993 (when the index started) to March 2000, the index soared by nearly 700% , before plunging in the wake of the tech bubble.

Why is biotech so volatile?

Biotech funds and shares can be subject to big swings and roundabouts because of the nature of how biotech companies and shareholders respond to positive and negative news. It’s often a ‘make or break’ scenario - either a treatment is going to work for millions of people, or it isn’t going to be sold to anyone.

Many biotech companies often start out with miniscule market capitalisations . But when a breakthrough is on the cards - such as a new wonder-drug or a novel treatment for cancer - the share prices of these stocks may rise by hundreds, even thousands, of percentage points.

But prices can fall just as quickly when there’s bad news, too

For example, if a drug fails to deliver the results that the company expected, or the FDA deems the drug unsafe or ineffective, the share price could plunge overnight as investors scramble to withdraw their money.

The approval process for biotechnology-based products is often complex and long-winded

Even when a drug is a strong candidate, many companies have to wait years , even decades, before their treatments can be deemed safe and effective for use in the general population or specific groups.

Many drugs in clinical trials never make it to market, so whenever you hear an announcement about a new drug candidate, be wary about what you're investing.

Ask yourself the following:

• How widely could this company’s products be adopted in the markets?
• Have regulators ever approved products from this company before?
• Are there many other similar drug candidates requesting regulatory approval?
• Is there any data from early clinical trials or pre-clinical trials?
• Look out for which phase the company is in

The earlier the testing phase, the higher the risk. A large number of drugs in the discovery phase do not progress to preclinical or clinical testing - and during those clinical trials, there’s no guarantee the drug will be deemed safe and effective.

So, which biotechnology investments have the potential to make big gains in the next few years?

Remember that biotech stocks are high-risk investments. The value of these stocks could go down and there is no guarantee that you will get a return on your investments. Diversifying your portfolio by investing in biotech funds rather than individual shares may help you reduce your risk.

But here are three biotech companies that may be of interest to hedge fund managers considering their portfolio options:

Exelixis Twist

Exelixis is a mid-sized biotech developing medicine to improve the quality of life for people living with cancer and to help them recover. The company is paying $25 million to test three drug targets from Swedish clinical-stage biotech company BioInvent to introduce antibody-based immuno-oncology treatments to the market.

Recent returns

Exelixis' share price has fallen since it started selling shares in 2018, but year-on-year revenue rose by 31.73% by March 2022 (source: Google).

Twist Bioscience

This company manufactures synthetic, developing a proprietary silicon-based manufacturing process in order to do this. The company is also working on digital data storage in DNA and aims to sell its products to the agricultural, chemical and education sectors.

Recent returns

Twist Bioscience's share price has risen 164.86% in the last 5 years (source: Google) but has followed a similar pattern to many other biotechnology stocks, witnessing a sustained fall since late 2021. However, the share price rose by 23.31% between June 6th and July 1st, 2022.

Axsome Therapeutics

This company is developing treatments for CNS conditions such as depression and Alzheimer’s, using novel therapies. Shares rose 30% in premarket trading on Monday, June 27th, 2022, following news that it had received proposed labelling by the FDA for its AXS-05.

Recent returns

Since entering the market in 2018, Axsome Therapeutics' share price has increased by 1,373% as of July 1st, 2022 (source: Google). Prices peaked at the end of 2019 before falling again then rising by 61.5% in April 2020, when the company published two studies with promising results.

Key takeaways

● Investing in biotech funds and shares is very high-risk
● Hedge fund managers should conduct a technical analysis of each stock and seek advice from people with expertise in the biotechnology industry
● Use a tried and tested platform such as our prime brokerage and build a diversified portfolio.