Biotech May Offer Compelling Value

December 19, 2022

The iShares Biotechnology ETF (IBB) reached a record high of $177.37 in August 2021, before losing steam and plunging 41% over the next 10 months.  

The biotechnology exchange-traded fund has since gained back some ground, and despite being 13% lower for the year, its performance isn’t as bad as the S&P 500’s 17% drop this year. 

IBB, the largest U.S. biotech ETF, holds shares of the top biotechnology companies, which integrate natural and engineering sciences to achieve the application of organisms, cells and molecular analogs for products and services.  

Highly Liquid ETF 

At $133.36 a share, IBB had a $46.83 billion market cap and traded an average of just over 1.87 million shares daily. IBB charges a 0.44% expense ratio. 

More than 90% of IBB’s assets are in U.S. companies, with nearly 68% in large cap companies with market caps over $12.9 billion.  

The highly liquid ETF has a blended dividend yield of 0.59%, which more than pays for its expense ratio for long-term holders.  

 

 

As the chart above shows, the top 10 holdings include the who’s who of U.S. biotech giants that lead the sector in research and development, potentially resulting in innovative medical breakthroughs.  

Outperforming the S&P 500  

The S&P 500 is the most diversified U.S. stock market index, and the SPDR S&P 500 ETF Trust (SPY) tracks its performance. After falling to a closing low of $356.56 on Oct. 12, 2022, SPY was at the $395.60 level on Dec. 12, a 10.95% recovery since the most recent low.  

 

 

IBB reached a closing low of $105.82 in mid-June and has made higher lows and higher highs over the past months. At $133.36 on Dec. 12, IBB was over 26% higher than the June low. On Oct. 12, IBB closed at $118.52 and was 12.5% higher since the SPY reached its low.  

Scandals, Opportunities 

Scandals can impact companies in the same sector. In October 2001, the Enron debacle contributed to the decline in the leading energy ETF, the Energy Select Sector SPDR Fund (XLE). XLE fell from $34.90 in May 2001 to $19.44, where it found a bottom in July 2002.  

The latest example is cryptocurrencies, where the FTX bankruptcy and its impact are still filtering through the burgeoning asset class. While bitcoin has plunged from over $68,900 per token to the $17,000 level since November 2021, bankruptcies of FTX, Voyager and other crypto-related businesses have had a systemic impact on the asset class and related companies.  

Meanwhile, XLE has never returned to the 2002 low, and if cryptocurrencies experience another explosive move, the current scandals could mark a low for the asset class.  

The recent sentencing of Theranos’ founder and CEO, Elizabeth Holmes, and Ramesh ‘Sunny’ Balwani, who each received a sentence of over a decade in federal prison, could mark closure for a scandal that hit the biotech sector in May 2018, resulting in Theranos’ bankruptcy.  

The dust has long settled in biotech since IBB reached a higher low of $95.16 per share in December 2018. However, the sentencing that closed the case likely improves market sentiment that government regulation and punishment will deter future fraud.  

Biotech stocks are not rallying because of the jail sentences, but scandals can knock blue-sky valuations from a sector and create value for surviving companies.  

Factors Supporting IBB 

As the markets head into 2023, three factors support the biotech sector and IBB: 

  • The tragic results of the global COVID-19 pandemic have increased the demand for companies with robust research and development pipelines to fight diseases and subsequent potential pandemics.  
  • PWC expects “activity in areas of high expected future growth in 2023. Pharma and biotech M&A will continue to focus on oncology and immunology, but other areas, such as central nervous system and cardiovascular disease, as well as vaccines, will see interest. Balance sheets and cash flow across the industry remain strong, and we believe M&A will remain a priority for capital allocation.” The leading biotech companies in IBB have the greatest odds of accretive acquisitions that could bolster earnings and share values.  
  • The trend is always your best friend in markets, and IBB’s outperformance of the S&P 500 will likely continue into next year.  

Identifying value is a challenge in a year where the leading stock market index is 17% lower. While IBB declined in 2022, it beat the S&P 500. IBB could have room to run in 2023, given the strong fundamentals supporting health care and innovations that improve medical technology.  

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