With ever-increasing health care spending and insatiable demand for new drugs, the biotechnology sector looks poised for good growth going forward. Furthermore, the U.S. biotech sector represents an attractive investment opportunity thanks to increased M&A activity, helping the sector to be one of the top performers in 2012.
The sector maintained its strong performance in 2013 as generic competition is forcing many Pharma companies to engage in merger and acquisition deals. The sector has succeeded in providing long-term stable growth to investors (Is the Biotech Sector Still a Market Leader?).
Further, fuelled by an invention of more drugs specifically designed to treat conditions like hepatitis C and multiple sclerosis, biotechnology stocks and ETFs have been good performers in 2013.
In fact, it seems that this share strength is expected to surround the sector for the next few years given the efforts of biotech companies to launch more and more drugs to cure Alzheimer's, hepatitis C virus, osteoporosis, rheumatoid arthritis, psoriasis, multiple sclerosis, dyslipidemia, cystic fibrosis, cancer and orphan diseases.
It should also be noted that the growth in the sector would also be maintained by drug approval and label expansion of the existing portfolio of launched drugs and data from late stage pipeline candidates.
Moreover, with more health care reforms, the industry will encounter both advantages and disadvantages. With Medicaid covering more people in 2014, the sector is sure to benefit from volume expansion. However, higher rebates for Medicaid patients could negatively impact the net price for biotech drugs (Two Sector ETFs to Buy in 2013).
Mergers & Acquisition
Small biotech companies are open to in-licensing activities and collaborations. Most of these companies find it challenging to raise cash, thereby making it difficult for them to survive and continue with the development of promising pipeline candidates. Therefore, it makes sense for them to seek deals with other pharma companies that have a high cash balance.
We would recommend investors put their money in biotech stocks that have attractive pipeline candidates or technology that can be used for the development of novel therapeutics.
Therapeutic areas which could see a lot of in-licensing activity include oncology, central nervous system disorders, diabetes and immunology/inflammation. The hepatitis C virus (HCV) market is also attracting a lot of attention (Forget Big Pharma, It Is Time For A Biotech ETF).
Emerging Market Gaining In Importance
Another trend seen in the biotech sector is a focus on the emerging markets. Big companies are looking to expand their presence in India, China, Brazil and other developing markets. Emerging markets are slowly and steadily gaining more importance and several companies are now shifting their focus to these areas.
ETFs to Tap the Sector
With this in mind, it could be time to give this segment a closer look. For investors looking to play the biotech sector, an ETF approach can be a solid idea (Four ETFs Up More Than 30% YTD).
This technique can help to spread out assets among a wide variety of companies and reduce company specific risk for a very low cost. Below, we highlight the ETFs in this sector in greater detail for those seeking to make a biotech ETF play at this time:
iShares Nasdaq Biotechnology ETF (IBB)
IBB is one of the more popular biotech ETFs on the market today with asset under management of $3.2 billion and a trading volume of roughly 400,000 shares a day. The fund charges an expense ratio of 48 basis points a year.
The fund holds 119 stocks in total in its basket, with just over 50% of the assets going to firms that are smaller than large caps. The fund has a concentrated approach in the top ten holdings with 60.59% of the asset base invested in them.
Among individual holdings, top stocks in the ETF include Regeneron Pharma, Gilead and Amgen with asset allocation of 11.25%, 8.52% and 7.52%, respectively (XBI)
Another popular choice in the biotech ETF market is XBI, a fund tracking the S&P Biotechnology Select Industry Index. The product has $832.2 in assets and does more than a quarter million in volume a day, while its cost is just 35 basis points a year.
The fund has a smaller basket of stocks with just 53 stocks in its basket, and only 18% in large cap securities. Despite the smaller holding pattern, the fund does not appear to be concentrated in the top ten holdings.
The fund has just 25.6% in the top ten holdings with NPS Pharmaceuticals Inc, Sarepta Therapeutics Inc and Seattle Genetics, Inc. occupying the top three positions in the fund with asset allocation of 2.86%, 2.80% and 2.64%, respectively.
First Trust Amex Biotechnology Index Fund (FBT)
This product is home to 20 biotech companies and has its assets invested across all classes of the market spectrum. A look at the style pattern reveals that the fund has a preference for growth stocks.
This also implies that the fund prioritizes securities on the basis of earnings growth and tends to have little inclination for undervalued stocks or securities which trade below their intrinsic value.
The fund manages an asset base of $333.2 million and charges a fee of 60 basis points annually. With a small holding pattern, the fund invests most of its asset base in the top ten holdings (53.4%).
Biotech stocks seem well positioned in this type of market environment and we believe that FBT could be a solid choice for investors going further into 2013 (Top Ranked Biotech ETF: FBT).
Market Vectors Biotech ETF (BBH)
The least popular of the pure biotech bunch – but still with a decent level of assets – is BBH, a fund from Van Eck that tracks the Market Vectors US Listed Biotech 25 Index. The ETF has over $307.4 million in AUM and a daily volume of about 86,300 shares, while it is also a low-cost pick with expenses of 35 basis points a year.
This is one of the only large cap centric funds on the list as it has over 55% of assets in that level and just 14% in small caps or micro caps. Additionally, it is somewhat concentrated from an individual security perspective with Amgen Inc and Gilead Sciences Inc combining to take up about 30% of assets in this fund which only holds about 26 other stocks to begin with (Gilead Puts Biotech ETFs in Focus).
PowerShares Dynamic Biotechnology & Genome Portfolio (PBE)
With a small asset base of just $156.6 million and a trading volume of just 17,900 shares a day, PBE has been designed to track the Dynamic Biotechnology & Genome Intellidex Index.
This produces a fund with a total holding of 30 stocks while charging an expense ratio of 64 basis points on an annual basis. The fund is moderately concentrated in the top ten holdings with 49.38% asset invested in these stocks.
Among individual holdings, Regeneron Pharmaceutical, Biogen Idec and Life Technologies occupy the top three positions in the fund with asset share of 7.39%, 5.62% and 5.48%, respectively.