The biotech sector, which has long been an investors’ darling and saw an enormous run from late 2011 till this past summer, lost all its sheen in recent months. The sector was caught in a nasty web of trading in the second half of 2015 with worries intensifying this year amid a broader market rout, led by the China turmoil and oil price collapse, along with some sector specific issues.
This led to a risk-off environment with many investors pulling out capital from this high growth and high beta sector. Notably, the Nasdaq Biotechnology Index lost about 21% in the first month of 2016, reflecting that the sector is on a bearish mode (read: Is The Time Ripe for Ex-Health Care S&P 500 ETF?).
There are a number of headwinds that are weighing heavily on the sector’s exponential growth. In particular, increased regulatory scrutiny over high drug prices, political uncertainty surrounding healthcare reform, and soft enrollment in public health insurance exchanges are the biggest culprits.
Further, continued deceleration in earnings growth added to the woes. This is especially true as Q4 earnings for 51.3% of the broad healthcare space reported so far are up 7.6% on revenue growth of 9.1%, as per the Zacks Earnings Trend. This is much below 14.6% earnings growth and 9.7% revenue growth recorded in the third quarter. Additionally, the earnings picture for the next two quarters for the space has been on a declining trend, reflecting slower growth in the months ahead (see: all the Health Care ETFs here).
Moreover, with the launch of first biosimilar in the U.S. (Zarxio, a biosimilar version of Amgen’s blockbuster drug, Neupogen), competition is heating up in this area. Several companies like Novartis (NVS - Free Report) , Pfizer (PFE - Free Report) , Merck (MRK - Free Report) , Amgen (AMGN - Free Report) , Biogen (BIIB - Free Report) and Allergan (AGN - Free Report) are targeting the highly lucrative biosimilars market.
In such a weak backdrop, biotech ETFs have seen terrible trading from a year-to-date look and some even slipped to 52-week lows last week. Below, we have highlighted them:
iShares Nasdaq Biotechnology ETF (IBB - Free Report)
This fund provides exposure to 190 firms by tracking the Nasdaq Biotechnology Index and charging 47 bps in annual fees. With AUM of nearly $7.6 billion and average daily volume of about 2.6 million shares, this is the largest and the most popular ETF in the biotech space. The product is slightly concentrated on the top five firms, which collectively make up for 43.6% share. Other firms hold less than 4.5% of total assets. IBB slid to a 52-week low of $259.06 per share on Thursday, representing a loss of about 21% in January. The product has a Zacks ETF Rank of 2 or ‘Buy’ rating with a High risk outlook (read: Biotech ETF (IBB - Free Report) Hits New 52-Week Low).
SPDR S&P Biotech ETF (XBI - Free Report)
With AUM of $1.5 billion and average daily volume of 5.5 million shares, XBI is extremely liquid and an easily traded fund. It tracks the S&P Biotechnology Select Industry Index and provides exposure to 105 stocks with each holding less than 2.2% of assets. This suggests that the product has no concentration issue and offers huge diversification benefits. The product has a definite tilt toward small cap securities at 74%, while mid and large caps account for the rest. It charges a relatively low fee of 35 bps a year for the exposure. The ETF dropped to a 52-week low of $48.78 per share on Friday, plunging 28% last month. It has a Zacks ETF Rank of 3 or ‘Hold’ rating with a High risk outlook.
ALPS Medical Breakthroughs ETF (SBIO - Free Report)
This fund targets companies with one or more drugs in Phase II or Phase III FDA clinical trials by tracking the Poliwogg Medical Breakthroughs Index. It is a small cap centric fund, having amassed $102.2 million in its asset base. The product holds 94 stocks in its basket with a well-diversified portfolio as none of the securities holds more than 5.2% of assets. The product charges 50 bps in fees per year from investors and trades in good average daily volume of more than 118,000 shares. It lost 28.1% last month and touched a 52-week low of $21.91 in Friday trading session. The fund has a Zacks ETF Rank of 3 (read: Top Sectors of 2015 and Their Leading ETFs).
BioShares Biotechnology Clinical Trials Fund (BBC - Free Report)
This ETF has a novel approach to biotechnology investing as it provides exposure to the companies that have a primary product in Phase I, II, or III of FDA trials by tracking the LifeSci Biotechnology Clinical Trials Index. Holding 90 small cap stocks in its basket, the fund is widely spread out as each firm holds no more than 1.72% share. The fund has accumulated $27.6 million in its asset base and charges a higher fee of 85 bps per year. It trades in a light volume of 15,000 shares a day and shed 34% in January by touching a new 52-week low of $18.57 per share on Friday. The fund has a Zacks ETF Rank of 3.
What Lies Ahead?
While investors may want to consider staying on the sidelines given the bearish trend, risk-tolerant, long-term investors could consider this slump a buying opportunity, should they have the patience for extreme volatility. This is especially true as the sharp decline in the stock prices has made the valuation extremely tempting at the current levels (read: What Lies Ahead for Biotech ETFs in 2016?).
Additionally, encouraging industry trends including a merger & acquisition frenzy, promising drug launches, cost-cutting efforts, an aging population, ever-increasing demand for new drugs, higher healthcare spending, expansion into emerging markets and Obamacare will continue to fuel growth in the sector. Further, the above-mentioned products have a favorable Zacks ETF Rank of 2 or 3, suggesting room for upside.
Given the promising long-term trends and the sector’s high growth potential, biotech stocks no doubt are due for a rebound sometime soon, especially when a wave of positive news starts to flow in.
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