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It’s been a rough year for pharma and biotech stocks with several factors weighing on the sector including media and political focus on the high price of drugs, mixed performance results, slower-than-expected new product launches and increasing competition.

The impact of these issues is more evident on biotech stocks, with the NASDAQ Biotechnology Index declining 20.9% year-to-date (YTD) while the NYSE ARCA Pharmaceutical Index has lost 10.9% YTD.

Drug Pricing to Remain in Focus

Right now, the biggest issue that is weighing on the sector is the political rhetoric regarding drug pricing.With presidential candidates, policymakers, the media and the general public focusing on the high price tags for drugs, the drug pricing controversy is not likely to die down easily.

In fact, the drug pricing issue heated up recently given the price hikes taken by Mylan (MYL - Free Report) for its life-saving combination product EpiPen. Democratic Presidential candidate Hillary Clinton announced a health care plan that will address the excessive price hikes of treatments that have been around for years and also reaffirmed her earlier broader plan, announced in Sep 2015, with the aim to lower drug prices for all Americans.

Insulin drugmakers like Lilly (LLY - Free Report) and Novo Nordisk are also under attack with Senator Bernie Sanders posting a series of tweets questioning the prices of their insulin drugs.

Will M&As Pick Up Pace?

With the major price correction resulting in reasonable valuations, expectations are high that more M&A deals will be announced in the coming quarters. So far in 2016, some of the announced/completed acquisitions include Shire-Baxalta, Bristol-Myers-Padlock, and Pfizer (PFE - Free Report) -Medivation, among others.

In fact, the Pfizer-Medivation deal, valued at approximately $14 billion, has raised hopes that major M&As will pick pace once elections are over while licensing deals and small bolt-on acquisitions will continue.

Several pharma companies are focusing on in-licensing mid-to-late stage pipeline candidates that look promising, instead of developing a product from scratch, which involves a lot of funds and time. Small biotech companies are open to such deals, with most of them finding it challenging to raise cash, thereby making it difficult to survive and continue with the development of promising pipeline candidates. Therefore, it makes sense to seek deals with pharma companies sitting on huge piles of cash.

Divestment of Non-Core Assets & Restructuring Activities

Another trend being witnessed is the divestment of non-core business segments. Companies like Pfizer, UCB, Novartis (NVS - Free Report) , Glaxo and AstraZeneca have all been a part of this trend. More recently, Sanofi is looking to divest its generics portfolio in Europe while Valeant is in discussions for various divestitures including the Salix business. The monetization of non-core assets allows these companies to focus on their areas of expertise.

Restructuring activities are also gaining momentum as large pharma companies look to cut costs and streamline operations. Most of these companies are re-evaluating their pipelines and discontinuing programs with an unfavorable risk-benefit profile.

New Products Should Gain Traction

Highly-awaited new products that gained approval last year should contribute significantly to revenues. Some of the important new product approvals include Vertex’s cystic fibrosis treatment, Orkambi, Amgen’s (AMGN - Free Report) ) heart failure treatment, Corlanor, Pfizer’s cancer treatment, Ibrance, Novartis’ psoriasis treatment, Cosentyx, PCSK9 inhibitors – Amgen’s Repatha and Sanofi/Regeneron’s Praluent, Roche’s advanced melanoma treatment, Cotellic and Gilead’s Genvoya (HIV).

Meanwhile, so far in 2016, the FDA has approved 19 new drugs including Zinplava (c. difficile infection), Lartruvo (soft tissue carcinoma), Exondys 51 (Duchenne muscular dystrophy), Epclusa (HCV), Ocaliva (rare, chronic liver disease), Zinbryta (multiple sclerosis), Tecentriq (urothelial cancer), Venclexta (chronic lymphocytic leukemia in patients with a specific chromosomal abnormality), Taltz (moderate-to-severe plaque psoriasis), Cinqair (severe asthma) and Zepatier (HCV) among others. The FDA also expanded the label of cancer drugs like Kyprolis, Imbruvica and Xalkori.

Biosimilars Gaining Importance

With the FDA approving the first biosimilar in the U.S. (Zarxio, a biosimilar version of Amgen’s blockbuster drug, Neupogen), the floodgates have opened. While biosimilars have been available in the EU for quite a while, there was no regulatory pathway for biosimilars in the U.S.

The second biosimilar to gain approval in the U.S. was Pfizer and Celltrion’s Inflectra (infliximab-dyyb) with the reference product being Remicade.

This was followed by the FDA approval of biotech giant Amgen’s Amjevita (adalimumab-atto). Amjevita is approved for use in all eligible indications of the reference product, AbbVie (ABBV - Free Report) Humira (adalimumab), which is used for a wide range of inflammatory diseases.

And then there is Lillyand Boehringer Ingelheim’s Basaglar, which while technically not approved as a biosimilar, is a “follow-on” insulin glargine product approved through an abbreviated approval pathway -- Basaglar was found to be sufficiently similar to Sanofi’s Lantus to scientifically justify reliance, and to establish its safety and efficacy for the approved uses. Lilly and Boehringer expect to launch Basaglar in mid-December while Pfizer will be launching Inflectra in late November.

Biosimilars should cut healthcare costs and provide a large number of patients with access to much needed biologic treatments. According to information provided by Express Scripts, about $250 billion could be saved in the next decade (2014 – 2024) if biosimilars for 11 products including Neupogen, Avastin, Epogen, Humira, Neulasta, Remicade and Rituxan are approved. According to the company, Neupogen biosimilars alone represent potential savings of about $5.7 billion.

Apart from Novartis and Pfizer, companies like Merck (MRK - Free Report) , Amgen, Biogen and Allergan are targeting the highly lucrative biosimilars market. Among these companies, Merck is a Zacks Rank #2 (Buy) stock. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Earnings Trends

It seems like so far so good for the Medical sector this earnings season -- 60.4% of the sector has reported results with earnings growing 12.3% on revenue growth of 8.7% from the year-ago period. The earnings as well as revenue beat ratio is 59.4%.

Looking at consensus earnings expectations, the Medical sector, which has performed well so far in 2016, is expected to see earnings growth of 4.4% and revenue growth of 7.4% in Q3. New products should start contributing significantly and increased pipeline visibility and appropriate utilization of cash should increase confidence in the sector.

For a detailed look at the earnings outlook for the Medical and other sectors, please check our Zacks Earnings Trends report.

Zacks Industry Rank

Within the Zacks Industry classification, pharma and biotech are broadly grouped into the Medical sector (one of 16 Zacks sectors) and further sub-divided into four industries at the expanded level: large-cap pharma, med-biomed/gene, med-drugs and med-generic drugs.

We rank all the 260-plus industries in the 16 Zacks sectors based on the earnings outlook and fundamental strength of the constituent companies in each industry.

As a point of reference, the outlook for industries with Zacks Industry Rank #88 and lower is ‘Positive,’ between #89 and #176 is ‘Neutral’ and #177 and higher is ‘Negative.’

The Zacks Industry Rank for large-cap pharma is #114, #192 for med-generic drugs, #101 for med-biomed/gene and #112 for med-drugs. Analyzing the Zacks Industry Rank for different medical segments, it is obvious that the outlook is Neutral for large-cap pharma, med-drugs and med-biomed/gene while Negative for med-generic drugs.


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