Biotechnology is undeterred

Geoffrey Hsu, Portfolio Manager of The Biotech Growth Trust, reveals why the fundamentals of biotechnology remain strong.

Investors in biotechnology over the past few years have had a tumultuous ride, but the long-term outlook remains bright.  The biotech sector delivered strong performance from 2011 to mid-2015, but then entered a dramatic correction in the fall of 2015 due to investor fears about the sustainability of high drug prices in the US. Certain specialty pharmaceutical companies were criticized in the media for excessive price increases, and presidential candidate Hillary Clinton made lowering drug prices a key part of her election campaign. 

As a result, after a steep slide in valuations in early 2016, the biotechnology sector remained largely range-bound throughout the rest of the year, as fears over a potential Hillary Clinton victory in the US presidential election acted as an overhang on the sector. 

The Trump rally

The surprise election victory of Donald Trump in November 2016 briefly catalysed a relief rally in biotech, sending the Nasdaq Biotech Index up 9% on the day after the election. Investors perceived the Republican sweep of the presidency and both chambers of Congress as a more favourable outcome for the drug industry than a Democratic victory, as it appeared to lessen the likelihood of any dramatic government action to control drug prices.

Indeed, Trump’s platform had largely been based on jobs, trade, taxes, and national security rather than lowering prescription drug prices. His pledge to repeal Obamacare suggested a shift towards a healthcare system based on free market principles rather than one based on government intervention. 

Uncertainty creeps back in

The burgeoning biotech rally was cut short, however, in January 2017, when President Trump made comments suggesting he favoured having government more aggressively negotiate drug prices with manufacturers. Repeated comments by President Trump regarding his intention to lower drug prices in the US re-established the pricing fears that had weighed on the biotech sector pre-election. 

As a result, there is still great uncertainty about specifically what Trump intends to do with regards to drug pricing. 

Biotech is undeterred 

While the policy backdrop remains unclear, the key fundamentals of biotech remain strong. Innovation continues, with significant progress occurring across many new drug modalities, including gene therapy, antisense, and cellular therapy. New product launches, including a novel drug for spinal muscular atrophy and a whole new class of migraine medications, should open up billion-dollar market opportunities.

Growth of M&A

In addition, M&A should continue to be an important driver of small-cap biotech performance as innovative assets and technologies are acquired by larger companies.  Republican plans to institute a tax repatriation holiday should facilitate this M&A activity by allowing large pharmaceutical companies to repatriate overseas cash at a reduced tax rate, increasing the cash balances available to make acquisitions. 

Positive signs for regulation

On the regulatory side, the environment for new drug approvals continues to be favourable. Trump has said repeatedly that he would like to expedite the approval of new drugs, and his nominee to head the FDA, Scott Gottlieb, is regarded as industry-friendly. Once there is more clarity about Trump’s plans for drug prices, we would expect biotechnology share prices to more appropriately reflect these positive fundamentals. 

For The Biotech Growth Trust, our focus remains on investing globally in companies developing innovative compounds across a wide range of therapeutic areas.  Areas of particular focus include neuroscience, oncology, and rare diseases. With regards to drug prices, our view is that companies will increasingly need to demonstrate the value of their drugs to the healthcare system, which favours innovative assets addressing unmet medical needs.