WASHINGTON (CBS.MW) -- Since the early 1990s, the biotechnology landscape has been littered with stunning disappointments as one promising biotech company after another failed to deliver results.
Since May of last year, the Nasdaq Biotechnology Index has notched gains of just 3 percent as burned investors shied away from betting on one of the most volatile sectors there is. By comparison, the S&P 500 Index rose 29 percent over the same period.
Valuation challenges
"People just don’t know how to value these companies, because most of them don’t make any money," said Michael Murphy, editor of the California Technology Stock Letter and manager of a $4.5 million fund invested in biotech stocks.
And so it was doubly impressive to see the stock picks by three analysts whose timely buy recommendations handsomely rewarded investors who followed their advice.
The stocks they chose were among the best performing in the Nasdaq and American Stock Exchange biotech indexes over the past year.
Investment managers who follow this industry closely say what these analysts have in common is a background in medicine or science, an understanding of the medical market and a knack for understanding whether a company has a drug in the pipeline that is likely to succeed.
Eric Hecht of Merrill Lynch
Topping the field is Eric Hecht of Merrill Lynch, who recommended buying MedImmune Inc. (MEDI) in April 1997. Since then, MedImmune, a maker of drugs that prevent respiratory infections in premature babies, has skyrocketed 253 percent as the company posted strong sales of its RespiGam.
The company is about to launch a second-generation version of the drug, called Synagis.
"MedImmune was a good bet. Last year it was trading at $12 (a share) and it looked as if the company’s Phase III data was going to succeed and if it did, it would go up to $30, and if it didn’t, it would only go down $2 or $3, so it’s risk-reward ratio was good," said Hecht, who has been analyzing the biotech industry since 1990.
Phase III trials are the final stage of testing before companies send a drug for approval to the Food and Drug Administration.
Hecht, who has a degree in medicine, likens biotech stock picking to drilling for oil.
"Either the oil is there or not," he said. "If it is, you have tremendous value, and if you don’t, you have nothing." Investors have the potential to make the most money, he said, when a company’s drug is in between Phase II and Phase III in clinical trials.
Phase II trials are conducted on a small group of people to show a drug is a effective. If it is, it is then used on a larger group of people in Phase III trials to prove to regulators that a drug is safe and effective.
While Hecht doesn’t expect another stock to quadruple this year like MedImmune, one stock that has potential is Alkermes Inc. (ALKS) The company has created a chemical time-release process for biotech drugs, called ProLease, and is expected to produce favorable data later this year.
"Eric is very clever. He has a strong clinical eye and an appreciation for the role of therapeutics in the delivery of healthcare. He also brings a certain market savvy to the table," said Bill Slattery, a portfolio manager at Amerindo Investment Advisors Inc., which manages about $2.5 billion in technology investments.
David Stone of Cowen & Co.
Another top stock picker is David Stone, with Cowen & Co., who has held a buy rating on Viropharma Inc. (VPHM) since Cowen brought the company public in November 1996.
The company’s stock soared 122 percent this past year after it said clinical trials showed its Pleconaril was effective in shortening the amount of time a patient suffered from meningitis, a dangerous inflammation of the brain.
Stone, who is one of eight analysts at Cowen that cover biotechnology, said he looks for biotech companies that are far enough along in their clinical trials to produce goods news because "earnings aren’t what motivate biotech stocks.
"In general, you are looking for a flow of news that will provide a series of triggers in terms of news about clinical trials" that will attract investor interest and push a stock higher, he said.
Stone has a masters in microbiology and business and has followed biotech for Cowen since 1989.
He also recommends Vertex (VRTX) Pharmaceuticals Inc., a maker of AIDS drugs, called protease inhibitors, which have been highly effective in reducing the deadly HIV virus in patients. Vertex’s drug is considered easier to take and more effective than other protease inhibitors already on the market, he said.
Stone also disclosed that he owns a stake in Vertex.
Kevin Tang of BT Alex Brown
In third place is Kevin Tang of BT Alex Brown, who made two buy recommendations on stocks which doubled in price over the year.
Immunex Corp. (IMNX) stock has risen 118 percent since Tang recommended a buy on the company April last year. The company has produced promising studies showing its arthritis drug Enbrel is effective in curbing the painful symptoms of arthritis.
Another Tang picked was Coulter Pharmaceutical Inc.(CLTR) in March 1997. Coulter’s Bexxar drug therapy triggered remission in patients with non-Hodgkin’s lymphoma, according to recent Phase II studies. The company’s stock has also risen 118 percent over the past year.
Tang said he studied neuroscience before joining Alex Brown, where he has covered biotech for five years. Tang said before he recommends a stock he carefully examines the quality of a company’s clinical trials and he talks with scientists and doctors outside the company to see whether they concur with a company’s enthusiasm about a drug.
"The key is to carefully examine clinical data and talk to the clinicians," Tang said.
He is also recommending CollaGenex Pharmaceuticals Inc. (CGPI), which makes drugs to treat periodontal disease.
David Molowa, May-Kin Ho
Two other respected analysts named by fund managers and newsletter editors are David Molowa of Bear Stearns and May-Kin Ho at Goldman Sachs.
Molowa spent five years working in the research laboratory of a major drug company, before becoming an analyst. He has a Ph.D in pharmacology and toxicology and an MBA, and is considered a "prize thinker in a volatile industry," according to Research Magazine.
Ho has won Institutional Investor’s best biotech analyst
three years in a row and "is a diligent worker and researcher," according to an
biotech investment analyst at Pioneer Mutual Funds in Boston.
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