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Will the race for a coronavirus vaccine cause a biotech bubble?

The coronavirus has sparked a race to find a vaccine and investors have rushed to gain exposure, but it is a high-stakes game with equally high risks.

Coronavirus Source: Bloomberg

Coronavirus pandemic pushes pharmaceutical and biotech stocks to record highs

Stock markets around the world may have started to stage something of a recovery since the sell-off in March that was sparked by the coronavirus pandemic, but one area has already gone on to reach new all-time highs.

Pharmaceuticals and biotech stocks have been propelled into the spotlight as the coronavirus highlights the importance of healthcare and sparks a race to find a vaccine or treatment. The Legal & General Health & Pharmaceutical Index, which tracks the largest companies in the industry, hit new all-time highs in May, as did other similar indices around the world including the FTSE 350 Pharmaceuticals & Biotech index and the Nasdaq Biotech Index.

Investors pile into small biotech stocks

Investors have ploughed hundreds of billions into the industry as they try to gain exposure, and the biggest beneficiaries have been a slew of small biotech stocks that have exploded in value. US company Moderna, which is credited with being the first out the gate when it announced it was developing a potential vaccine in February, before most countries had even recognised the pandemic, saw a company with minimal revenue and high losses more than quadruple in value to almost $30 billion in less than three months. Another US firm Vaxart, which is developing a potential oral vaccination, saw its shares multiply ten-fold between the start of the year and 27 April.

The industry has outperformed the wider market since the lows seen in March, with nearly every major index still in negative territory for the year. For example, the FTSE 350 is still down 18% since the start of the year, while the Dow Jones is still trailing 9.7%.

This trend is not limited to the US. UK small-cap Synairgen saw its shares soar more than 1000% between the start of the year and 14 April as investors piled in on its plans to develop a potential treatment for coronavirus. Both South Korean outfit Genexine and Japanese biotech firm Takara Bio have seen their shares more than double since unveiling separate vaccine development plans.

Many of the smaller stocks in this space have already started to give back some of their gains as investors come to terms with the crazy valuations being assigned to some companies, although many are still worth considerably more than they were at the start of the year. The flurry of excitement around the industry is understandable, but investors risk getting caught-up in the excitement and overlooking the reality – competition to develop a silver bullet to this global problem is intense, the risks and costs are high, and the chances of success are low.

What are the chances that a coronavirus vaccine will be developed?

Right now, there are 136 potential vaccines in development around the world, according to the World Health Organisation (WHO), but the vast majority will fail and only a handful – if any – will be successful.

These will all have to go through rigorous testing to not only make sure they work but that they are safe for humans, evolving from preclinical trials that don’t involve human testing through to multiple phases (usually 1, 2 and 3) that progressively involve larger samples of human subjects.

About 126 of the 136 potential vaccines in development are in the preclinical trial stage, or, in other words, barely off the ground. Just ten of them are actively being tested on humans, according to WHO, led by a partnership between the University of Oxford and AstraZeneca. Uncoincidentally, six of the ten are existing drugs that were originally developed as potential candidates for other diseases, like SARS, Ebola, influenza and Zika. Existing drugs can move through the process quicker as they may have already been trialled for safety on humans previously, meaning there are less hurdles to jump and fewer concerns to address than a new drug being developed entirely from scratch.

The chances of success wither the further you get through the trial process, and most of the candidates will only make it through to the next stage or two if they are lucky. According to the US Food & Drug Administration (FDA), 70% of drugs pass a phase one trial, when small trials are held to analyse toxicity and determine how the drug is processed by the human body. But only 33% of drugs that make it to phase two, when trials are conducted on several hundred people to evaluate the efficacy and side eaffects, make it to phase three, when trials are done on thousands of people. Of that, just 25% to 30% go on to approval.

That suggests, in the best-case scenario, seven to nine of the 136 contending vaccines could find success. The world would happily take those odds right now, but it is important to remember that those figures are based on all different types of drugs and not just vaccines. Plus, don’t forget that we don’t have any vaccines for previous versions of coronavirus, like MERS and SARS, or even the common cold. There is no guarantee that a vaccine will be found, but hopefully we will find ourselves in the fortunate position of having multiple vaccines on offer, or at least one.

The 12-18 month time-frame for a vaccine is highly ambitious

The urgent need for a solution to coronavirus and to get the world back to normal means the industry is being pressured to work at a highly ambitious pace. Ever since the outbreak began earlier this year, politicians and others have constantly suggested that a vaccine could be just 12 to 18 months away. Although the ambition is understandable, that would be a remarkable achievement by any standard.

The College of Physicians of Philadelphia, in the US, says it often takes ’10 to 15 years’ to develop a vaccine, while GlaxoSmithKline (GSK) says it can take up to 18 years and, even if it flies through the process, six years at best. The amount of time and resource being thrown at the problem in the hope of finding a solution is unlike anything we have seen before, so there is a chance a vaccine or treatment could be developed in record time, but the vast sums of money thrown at the endeavour have been committed with a high risk of failure.

Another reason why a vaccine is needed sooner rather than later is that the potential payoff for the industry could wither as time goes on. Large sums were spent on beginning research on previous outbreaks of SARS and MERS but didn’t get anywhere as the threat of both viruses withered.

The discovery of a vaccine is not only urgent for the world’s health but for the economy too. Governments have happily pushed the 12-18 month narrative because, for them, that is already too long for the economy to be held hostage by the coronavirus. Governments are already itching to get back to normality, relaxing lockdown measures, and trying to get people back to work and off the wage book funded by the public purse. But this is all in the expectation that a long-term solution to the problem is just around the corner. Fingers are crossed, but they shouldn’t promise something that has a higher chances of failure than success.

How much is a coronavirus vaccine worth?

The rewards on offer to any successful company remains up in the air.

If only one company finds the answer, then it will enjoy exclusivity and the potential to reap bumper profits while all the others will see any coronavirus-induced gains erode. However, if multiple companies discover a solution, then there will be numerous options entering the market, possibly in rapid succession. This would give governments more flexibility as they will have choice, but it lowers the prospects for the developers as they will face competition. Plus, many companies, like AstraZeneca and Johnson & Johnson, have pledged to make any vaccine on a no-profit basis.

Nobody should expect any company that successfully develops a vaccine to see a return in the short-term, apart from what would undoubtedly be a record-hitting increase in the share price (assuming they are public). The attitude at present is to find a vaccine and distribute it globally as quickly and cheaply as possible. Plus, companies do not want to be seen trying to profit from a global health crisis. They will be expected to prioritise public health over profits, at least in the short term.

However, the returns over the longer term could be substantial. For example, there is a chance that any successful vaccine will have to be given seasonally, like every year, rather than as a one-off. While the initial rounds of vaccines are unlikely to yield much in terms of profit, they could potentially cash-in during the following years or by selling stockpiles to governments. Many new technologies are being tested out to see if they can revolutionise areas like drug discovery, and while they may not find success this time around it may prove a critical time for smaller stocks seeking to prove their technologies.

Read more: How to invest in the best biotech stocks

The potential value of a vaccine is impossible to predict as it depends on whether it has competition, affordability and a number of other variables. But the industry knows there would be demand for it unlike no other drug, and that is hard to ignore.

How to invest and trade the race for a coronavirus vaccine

We are just months into what could be a lengthy race and, right now, it is a high-stakes game. The basket approach doesn’t look like a sound strategy as more stocks will fail than succeed, producing an overall negative result for investors trying to use exchange traded funds (ETFs) or indices to gain exposure. On the other hand, putting your bets on one or two individual stocks is also high risk and the odds are strongly against you.

The best thing to do is identify those working on a vaccine or treatment but that also have strong prospects beyond the coronavirus. Large pharmaceutical firms have, as you would expect, not experienced the same rises in value as their smaller counterparts, but they have still put in a relatively strong performance this year and are likely to hold up well even if they fail to discover a vaccine. For example, AstraZeneca has added nearly £50 billion in value since the start of the year. Some of the smaller stocks also have other developments to watch – like Novavax, which is advancing a potential flu vaccine, or Synairgen, which is trialling treatments for widespread issues like asthma and COPD. Still, it is important to watch the valuations of these smaller stocks, most of which are producing large losses and yet to generate material amounts of revenue.

Another angle could be to take a step back from those trying to develop a vaccine and turning your attention to other vital parts of the process, like suppliers and manufacturers. Those that have pledged to manufacture any vaccine that is developed could benefit regardless of who actually discovers it. Again, while the rewards over the short term are questionable, any company that secured a long-term deal to produce a yearly vaccine will be onto a winner. Major suppliers to consider include companies like Corning, which makes glass vials for drug testing, or companies that supply items like syringes.

Traders should also keep an eye on the slew of small stocks that have exploded in value this year. The results will start to roll in over the coming months and most of it will be bad news. There will be plenty of shorting opportunities on the stocks that fail.

Whether or not you’re interested in gaining direct exposure to this space, every investor and trader should be keeping a watchful eye on progress with a vaccine or treatment. For example, markets have turned to stocks that are proving resilient during the current pandemic but, if a vaccine is found, then markets will start to turn their attention to assets that aren’t performing too well today but set to recover strongly once things return to normal. Stock markets have responded positively when good news about a vaccine candidate is released, and suffered when one fails and overall hope diminishes.

Read more: Winners and losers in a post-coronavirus world

Will the coronavirus cause a biotech bubble?

Although large sums of money have flowed into the pharmaceutical and biotech space, it is far too early to call it a bubble. The dot-com bubble burst in 2000, but only after $2 trillion was ploughed into internet stocks over several years. In comparison, the excitement around a vaccine has only been around for a few months and attracted less than ten times that sum from investors. It could be the beginning of one, but the fact many smaller stocks have already started to give back some of their gains suggests some reality is returning to the market. Having said that, many of them still have plenty of room to fall if they fail.

Read more: How to trade coronavirus volatility

However, the longer it takes to develop a vaccine (if ever), the bigger and more vulnerable any potential bubble could get. Interest in the industry will remain high so long as a vaccine or treatment is needed and yet to be discovered, and the fear is that a bubble will form before bursting. The hope is that people will be receiving vaccines as early as this year or in 2021 at the latest – but there is no telling when the breakthrough will come, if ever. Just this week, reports began to emerge in the UK suggesting a cheap steroid named dexamethasone could be the first treatment in the fight against coronavirus, with the country’s chief medical officer Chris Witty tweeting ‘it will save lives’. The breakthrough may never come, but maybe we are closer to finding the answer than we think.

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