Pharmaceuticals With Big Returns

By Arthur Pinkasovitch | June 22, 2010 AAA

Investing in biotech and pharmaceutical stocks is often more challenging than other forms of investments. While analyzing retail stock, such as Wal-Mart, for example, requires understanding of the firm's balance sheet and operations, most people are familiar with the basic business model of the large department store, and thus would feel more comfortable with the share purchase. The home country bias suggests that investors fail to diversify their holdings across international boarders because they are familiar and comfortable with the domestic selection of stocks.

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Going Beyond Your Comfort Zone
Generally, typical investment strategies involve analysis of the securities that people are familiar with. Start-up firms often have difficulty attracting investors because only those who are familiar with their operations will invest the desired capital. Most people who wish to diversify their portfolios to incorporate a pharmaceutical component will purchase well-known and established firms such as Pfizer (NYSE:PFE), Merck (NYSE:MRK), Johnson & Johnson (NYSE:JNJ) or simply a pharmaceutical ETF such as Pharmaceutical HOLDRs (AMEX:PPH). While such investments are definitely suitable for almost any type of investor, there are some other intriguing large and small cap stocks that do not have the same type of mainstream recognition as the aforementioned companies.

A Home Run in Biotechnology
Human Genome Sciences (Nasdaq:HGSI) is a $5.2 billion pharmaceutical company that has returned over 1,000% in the last year. After its successful phase three testing, Human Genome Sciences is waiting FDA approval for BENLYSTA, the first approved drug in 50 years which treats Lupus. Barclay's Capital is optimistic about the drug since "the trials they did and the trial design was sufficient, and those trials were successful." With more major drugs in the pipeline, particularly ZALBIN, which would treat chronic hepatitis C, HGSI has the potential to create several blockbuster drugs.

Although Human Genome Sciences trades with a beta of 5.06, in addition to a price-to-sales and price-to-book significantly larger than the industry average, official FDA approval of its drug will justify the high multiples.

A Specialty Pharmaceutical Company
Somaxon Pharmaceuticals (Nasdaq:SOMX) also had an impressive year, and increased the value of its shares by 360% year to date. In the highlights of their latest quarterly report, Somaxon noted that the FDA approved the New Drug Application for Silenor used in treating insomnia. Since the pharmaceutical company is still in the development stages, it did not generate revenues in the first quarter of 2010. However, Somaxon has cash of and cash equivalents of 58.5 million with no debt on its balance sheet.

The Drive to Discover
Incyte Corporation (Nasdaq:INCY) creates drugs for hematologic and oncology indications, in addition to chronic inflammatory and autoimmune diseases. It currently has several drugs in the pipeline which target such major ailments as Myelofibrosis and Arthritis. According to MarketWatch, the average target price for Incyte is $17, almost $4 higher than its current trading range. With a beta of 2.38, INCY is a fairly volatile stock, and should be researched carefully. Over the past year, shares returned 310%.

The Bottom Line
In addition to the well known pharmaceutical companies, investors should consider adding some of the other players as well. Although some of these may be more risky, they have the potential to produce significant capital gains. (To learn more about the industry, check out Measuring the Medicine Makers.)

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