Growth Report : Genentech

Biotechs: An Expert Opinion

Ian Wyatt — Wed, 30 Jul 2008 18:09:00 GMT

Biotechs: An Expert Opinion

Bio-tech stalwart Amgen (Nasdaq:AMGN) crushed earnings estimates Monday afternoon (July 28) and raised guidance to boot. The stock was up 4% on Tuesday. Most biotech ETFs were up 1% or so in response.

That lends a little credence to my recent discussion, I suppose.

The two stocks I mentioned last week have put in a mixed performance. Somanetics Corp (Nasdaq:SMTS) has added $1.50 to $22.58. Emergent Biosciences (NYSE:EBS) is up slightly to $13.00.

Of course, it’s only been a week. And a one-week holding period for an individual biotech isn’t enough to make any money unless you’ve got the kind of insider information that, to paraphrase The Steve Miller Band, might get you rich or might get you busted.

Besides, my stock-picking machine is optimized for medium-term holding periods – from a couple weeks to a few months. It’s been about a month since biotech and medical device stocks started moving. So there should be plenty of upside to come.

With that in mind, I thought it might be helpful to turn to an expert in the biotech field to get some further insight into what’s driving the biotech rally and how long it might last. And who knows, we may even get a couple stocks too…

Biotechs from an Expert

My stock picking machine is great at uncovering profitable investments by following money-flows into individual stocks. However, it doesn’t have much to say about monoclonal antibodies or antisense.

We recently interviewed Dr. Fariba Ghodsian, Ph.D., MBA to get her views on the biotech sector. Dr. Ghodsian is currently Chief Investment Officer and Managing Member of DAFNA Capital Management, LLC, a biotech investment fund. Dr Ghodsian previously worked at Roth Capital Partners as Managing Director of Healthcare Research since 1999. She was a senior biotechnology analyst at Wedbush Morgan, Hancock Institutional, and Lehman Brothers.

In 2002, Dr. Ghodsian was ranked among the top five U.S. biotechnology analysts by the Wall Street Journal.

I don’t know about you, but I have no problem calling her an expert on biotechs.

Biotech Buying

Dr. Ghodsian believes that the potential for premium buyouts are one main reason for the strength in biotechs.

For one, big pharma’s pipelines are barren of blockbuster drugs and patents on existing drugs are running out. That’s why Pfizer (NYSE:PFE) is trading at a 10-year low. It’s also why Roche just ponied up $44 billion to buy the remaining shares of Genentech (NYSE:DNA).

A second factor driving acquisitions is the decline of the dollar. Roche is a Swiss company, so it effectively picks up Genentech on the cheap due to the relative strength of the euro against the U.S. dollar.

Thirdly, in the wake of the Vioxx issue, the FDA has gotten a lot tougher in its drug approval process. So if a big pharma is going to partner with, or acquire, a smaller biotech, it makes sense to wait until later Phase trials show some statistical efficacy. It may cost a little more, but it’s also safer.

Dr. Ghodsian believes the biotechs are well-positioned to demand favorable terms in both partnerships and buy-outs.

What to Look For

Cancer, hepatitis C and diabetes are larger diseases seeing the greatest development. The greatest development in smaller diseases include lupus, immune thrombocytopenia purpura, pulmonary arterial hypertension, cystic fibrosis and pulmonary fibrosis.

Another field Ghodsian sees major developments in is rheumatoid arthritis. “There are major advances with oral drugs in development that would be a great benefit for the patients,” she said. Cardiovascular and gout disease are other areas expected to experience major developments.

Ghodsian likes companies that offer a unique product or a unique way to deliver a drug. Stay away from the “me-too” drugs, where other companies have a similar drug. She also examines the company’s market potential and its chances for success. “Obviously the market size of the drug is important,” Ghodsian notes. “But sometimes companies can thrive very well in very limited markets.”

She says the market should be an attractive one where the disease is difficult enough that the insurance companies would be willing to pay a high premium. She points to Genzyme (Nasdaq:GENZ) as an example of that. The biotech company made a billion dollar drug out of orphan diseases by tacking on a high price.

It goes without saying that the drug must also demonstrate a favorable safety and efficacy profile to warrant approval. Good management is key to getting the drug to market.

Ghodsian also examines the company’s financial resources. “Often time’s biotech companies raise too little money, or are sometimes shortsighted when it comes to financing and I think that bites them in the end,” she said. “So a company that is well financed particularly in this market is important.”

Most of the companies in Ghodsian’s universe are not profitable. Some of the companies she invests in are very late stage, while some are more in clinical development. Among specific stocks she favors include, Isis Pharmaceuticals (Nasdaq:ISIS), Rigel Pharmaceuticals (Nasdaq:RIGL) and Pozen (Nasdaq:POZN).

Looking Forward

My stock-picking machine has churned out a few more promising biotech stocks. Next week, we’ll have a look at those stocks. Plus, I’ll take you inside the electronic brain of the machine so you can get a better understanding of how it consistently pulls up profitable investments.

Best Regards,

Ian Wyatt

Chief Investment Strategist

Growth Report

Ian Waytt is the Chief Investment Strategist for the advisory service Growth Report. Growth Report is focused on profitable small-cap companies. For more information, please visit the www.growthreport.com. Ian also writes a free weekly e-letter called Big Idea Investor. You can sign up to get Ian’s weekly commentary here: www.bigideainvestor.com

In Search of a Bull Market

Ian Wyatt — Wed, 23 Jul 2008 15:40:00 GMT

In Search of a Bull Market

It’s an old stock-market saw – there’s always a bull market somewhere. Even though the S&P 500 is down some 16% year to date, it’s easy to point to commodity and oil stocks and say, “See? There’s your bull market.”

Now, I’ve been warning my readers away from Big Oil stocks for over 6 months. But my recommendations of stocks like oil services company like Graham Corp. (NYSE:GHM) have proved that the ever-present bull market hasn’t completely become a cliché.

However, I have something else in mind. Biotechs. Believe it or not, in the midst of the bank meltdown, runaway inflation, and U.S. recession, the Biotech HOLDRs (BBH) is at a 52-week high. Over the last year, the BBH

has established solid support at $160, has broken a strong resistance point at $175, and is currently working on a secondary resistance point at $180.

With an important sector benchmark like the BBH showing strength, it gives the impression that biotechs are breaking out all over. Well, yes and no.

78.9% of the BBH is dominated by three biotech heavyweights – Affymetrix (Nasdaq:AFFX), Genentech (NYSE:DNA), and Gilead Sciences (Nasdaq:GILD).

That’s really not enough of a sample to draw any firm conclusions about the overall strength of the biotech sector. Still, where there’s smoke, there’s often fire…

Follow the Money

About six months ago, my stock research analysts put the finishing touches on a stock-picking machine for my advisory letter, Growth Report. Without going into too much mind-numbing detail, this machine ranks 3,500 small cap stocks on based on 88 criteria every day.

The stocks at the top of the list have received the highest ranking based on relative sector strength, relative valuation within the sector, profitability, growth prospects and several other fundamental metrics, with some technical metrics like momentum and expanding volume thrown in to identify stocks that, in addition to being attractively valued, are actually being accumulated.

As you might expect, the top rankings have been dominated by oil services and exploration companies for months. But there have been a few surprises. We had great success with a few solar stocks back in March. Canadian Solar (Nasdaq:CSIQ) jumps to mind. And there have been a few tech stocks like Netezza (NYSE:NZ). We even caught a 20% run on Green Mountain Coffee Roasters (Nasdaq:GMCR) back in May.

Like I said, there have been some surprises.

About two weeks ago, we started getting a new surprise. You guessed it: biotechs. And since the machine only ranks small cap stocks, it wasn’t picking up on the strength of BBH stocks. Something else is going on. And it could be the fire to the Biotech HOLDR’s smoke.

Why Biotech?

Pharmaceutical stocks are often considered to be recession-beaters because diseases aren’t economically sensitive. But again, there’s something else going on. Biotechs with products in the pipeline are moving higher.

If you’re looking for a sector that has the potential to change our very standard of living at a most fundamental level, there aren’t many sectors to choose from.

Alternative energy is one. There will be some huge winners in this space. But valuations can be extremely rich. And there’s still not much consensus about which technologies will have staying power.

Two years ago, as President Bush was throwing his weight behind ethanol, some of those stocks might have looked like slam-dunks. A quick look at those ethanol stock charts today would give even the most intrepid investor the heebie-jeebies.

Yeah, sure, I suppose there are a few tech stocks out there with life-changing potential. But somehow, I just don’t get fired up by iPhones and NetFlix set top boxes. I guess I’m just a dotcom cynic now.

Oil exploration won’t change our lives dramatically, though there are still some interesting profit opportunities in Canada’s oil sands and in America’s own Bakken oil shale regions.

Follow the Light

Perhaps in these dark economic times, investors are turning a hopeful eye to the one sector that can still fire the imagination that better times lie ahead – biotech.

It seems every day, scientists isolate the genetic cause for another disease. Recently, scientists announced that they’ve discovered a genetic cause for the processing quirks that result in autism.

If you didn’t know, autism now affects 1 out of every 162 kids in this country. It’s a virtual epidemic. Trust me on this one, parents of kids on the autism spectrum will pay dearly to get their children back.

Just today, scientists say they may have isolated a gene associated with a predisposition toward violent crime.

Scientists have already managed to turn ordinary cells into stem cells. So I may not have to rely on a Democratic Administration to push stem cell research forward. And for aging Americans, that’s probably a more pressing issue than hydrogen fuel cells.

Two Biotech Movers

There’s plenty of money on the sidelines, just waiting to be put to work in the stock market. And you won’t find many medium-term investment stories more compelling than biotech.

Don’t worry. I’m not going to leave you hanging. Here are two of the stocks my stock-picking machine has turned up.

The first is Emergent BioSolutions (NYSE:EBS). Emergent BioSolutions has the only FDA-approved vaccine for anthrax. The company is about one-quarter of the way through a $448 million contract with the U.S. government, so cash-flow shouldn’t be a problem anytime soon.

EBS rounded out its anthrax suite with the acquisition of a couple other Phase II drugs. It has a typhoid vaccine in Phase II trials. Plus, it’s a acquiring a recombinant flu vaccine called FluBlok that’s in Phase III trials.

Biotechs always carry risk that trials won’t demonstrate the efficacy of a future product. But with a forward P/E of 13, investors seem to be giving EBS the benefit of the doubt at the present time.

The second stock is Somanetics (Nadsaq:SMTS), a medical device maker. Somanetics makes the INVOS System which monitors blood oxygen levels in at risk patients. It also makes the CorRestore system which is used in cardiac repair and restoration.

I won’t pretend to understand exactly what that means. Quarterly revenue grew at a 39% clip last quarter and earnings grew 26%. The company is doing $42 million in sales and has a strong cash position of $51 million and no debt.

The forward P/E is a manageable 25. And the company has been aggressively buying back stock. Perhaps best of all, analyst earnings estimates for this year and next have been revised higher twice in the last two months.

Maybe it’s a little early to start talking about a bull market for biotechs. But if my stock-picking machine keeps turning up biotechs, Growth Report readers will be among the first investors to get on board.

Ian Wyatt

Chief Investment Strategist

Growth Report