EXCLUSIVE: Knives Are Out for Biotech, As Bears Snag Options for Bubble Burst
New market data is showing a renewed and ravenous demand for options tied to declines in an exchange-traded fund tracking biotech companies, according to Bloomberg data, which hit the highest level in three years last week.
Biotech is continuing its scorching pace of growth, with the NASDAQ Biotechnology Index (NBI) up more than 25 percent this year, 34 percent year-over-year, and more than 520 percent since 2009. That’s led some investors to wonder if these new highs are the new normal—and where the market might be frothiest.
“The sector is dependent on capital that might shy away at the first sign of weakness,” Goldman, Sachs & Co. derivatives strategists Katherine Fogertey and John Marshall wrote in a note to investors the week of June 15. “Recent pipeline setbacks have increased concern of this.”
So far, the NBI is trading at 53 times analyst earnings estimates, a massive discrepancy from the 18 times metric currently traded for the Standard & Poor’s 500 Index.
It also didn’t help that Federal Reserve Chairwoman Janet Yellen has called out the NBI for being “overvalued” twice during her short tenure. Indeed, almost every week in 2015 has seen a significant gain for the NBI, with Friday’s trading ending with the sector up almost 4 percent, a vast outpacing of the NASDAQ Composite, which only gained 1.3 percent. But there remains a tug-of-war on consensus between the buy side and the sell side about valuation, which a recent polling by ISI Evercore found to be somewhat over-hyped.
“We recently calculated the market cap/EV for the entire biotech sector. We also gathered consensus estimates for the entire sector. We then asked the question: ‘What’s the present value of total biotech sector cash flows that consensus estimates predict?’” wrote Mark Schoenebaum, an analyst at ISI Evercore, in a note to investors Monday.
“The answer is that it’s far above where the sector is currently trading,” Schoenebaum said. That likely means the buy side believes the sell side is overvaluing the sector, for a variety of reasons.
“I would note that consensus estimates currently show biotech revenue growing by a whopping [around] $90 billion by 2019. So perhaps it’s healthy that you don’t seem to believe this. (Argument for no bubble?),” wrote Schoenebaum.
One factor might be that the sector’s highs have simply been historic, which has buoyed the market overall.
“The last nine months has been a series of higher highs” for biotech stocks, Brian Lazorishak, portfolio manager of the $102 million Chase Growth Fund, told the Wall Street Journal last week.
Indeed, the top biotech ETF, the iShares NASDAQ Biotechnology Index (ETF) surged to an new all-time high last week, gaining 3 percent intra-day for its nearly $9 billion in total assets. Since its basket follows well-known sector bellwethers like Amgen (AMGN) and Gilead Sciences, Inc. (GILD), analysts and investors watch it closely for signs of any market hiccups.
Still, for now, some analysts believe that while it’s been great while it lasted, that level of growth will eventually become impossible to sustain long-term.
“By our math, the sector’s cash flows have to grow 4 to 6 percent into perpetuity in order justify the current market cap/EV,” said Schoenebaum. This is in contrast to consensus estimates, which appear to imply much higher cash flow growth.”
June 29, 2015
By Riley McDermid, BioSpace.com Breaking News Sr. Editor