WHAT IS a 'Biotechnology Industry ETF'

A biotechnology industry exchange-traded fund (ETF) invests in companies that combine biology and technology to develop innovative products and services.

BREAKING DOWN 'Biotechnology Industry ETF'

Biotechnology industry ETFs cover a wide variety of biotechnologies, many of which are involved in the use of biological processes such as recombinant DNA technology, molecular biology, genetic engineering and genomics. Depending on its size, a biotechnology company may have a number of products at various stages of development, ranging from initial feasibility to advanced clinical trials. Products and services from such biotechnology companies generally cluster in healthcare, but also may address agriculture and the environment. A substantial portion of a biotechnology ETF would consist of companies engaged in the development of drugs to combat various ailments.

Because of extremely high research and development costs coupled with very little revenue during the years of development, many biotechnology companies must partner with larger firms to complete product development. The smaller companies operating in biotech have been dominated by a small handful of larger companies. However, a smaller company may have the potential to successfully produce a product that increases valuation significantly.

Pros and Cons of a Biotechnology Industry ETF

When considering investing in biotech, a simple stock screen based on earnings, revenue or other financials may not tell the full story. The potential market for a drug, any competitive products and the chances of gaining final Food and Drug Administration (FDA) approval must be analyzed. A biotechnology industry ETF offers exposure to the sector but frees the investor from having to do the extensive fundamental research necessary to evaluate biotechnology companies.

An ETF, or exchange-traded fund, is a marketable security that tracks an index, a commodity, bonds, or a basket of assets like an index fund. Unlike mutual funds, an ETF trades like a common stock on a stock exchange. ETFs experience price changes throughout the day as they are bought and sold. ETFs typically have higher daily liquidity and lower fees than mutual fund shares, making them an attractive alternative for individual investors.

By owning an ETF, investors get the diversification of an index fund as well as the ability to sell short, buy on margin and purchase as little as one share. Another advantage is that the expense ratios for most ETFs are lower than those of the average mutual fund. When buying and selling ETFs, investors have to pay the same commission to a broker that they would pay on any regular order. However, biotechnology industry ETFs are likely to be more volatile than the broader equities market.

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