One of the most risky and at the same time, often pleasant, in the stock market, for the private investor is the Biotechnology sector small-cap (Small Cap). Investors await: the treacherous legal regulation, promoters (pumpers) inflate prices for personal gain, and infamous managers seeking to continuously dilute the value of your stock (split). Therefore, you should always be on the alert. Management of normal human emotion, as greed, will help when investing in biotechnology due to the extremely volatile nature of the industry. Daily, private investors and hedge funds don't cope with these risks and in the end give up this potentially lucrative region.
The management of these risks, in fact, does not require years of experience, degrees or endless reserves of time and money. The truth, there are a few simple ways, to a private investor could reduce the risk of fatal mistakes and help to separate gold from debris in the Biotechnology sector.
The following five points will help you avoid the pitfalls of biotechnological and significantly improve the quality of stock selection.
1. The owners
One of the best ways to lower the overall risk – it stick to the companies, which are largely owned by hedge funds and other professional investors. Companies, owned by institutional investors, you can be sure, as with due diligence, management (the Board of Directors) think twice, before sharing with other business owners. You can easily find this information using the Yahoo Finance section “Major Holders”.
Also note the stock, which have one or more owners, with more 5 % stock. This is important, because the size of these positions is huge, and while selling them can lead to a giant drop in the value of shares; because you will need to file Form 4 SEC for any change in position size, in the future, affect the shares. Because of this, the holders of more 5% imposed long-term vote of confidence by the issuing company of the shares. Accordingly, companies do not have owners more 5% you should avoid. Professional investors don't want to risk it and you don't have.
This indicator is a good indicator in identifying the so-called “PUMP and DUMP” and promotes the selection of more legitimate companies. Radient pharmaceuticals ($RPC) , one such example. It was a flurry of positive articles in December and January, allowing be of interest to many private investors. The campaign took off from $0.50 to $1.50. Unfortunately for those, who bought into this wave, the share recently traded at $0.21. Private investors were deceived. In the study of this company shows, that it has no institutional owners with packages more 5% shares and positive article, most likely, the work of promoters dispersing action. Other companies do not have large institutional investors, which is worthy of mention Northwest Biotherapeutics ($NWBO), Rexahn Pharmaceuticals ($RNN), Adeona Pharmaceuticals ($AEN), MannKind ($MNKD), and Orexigen Therapeutics ($OREX). Therefore, the authors of the articles, that regularly publish too many positive articles about companies with poor institutional property must be thoroughly checked.
In addition, take time to familiarize yourself with a few more solid foundations. Here are a few companies with the holders of shares more 5%: Orbimed, Deerfield, FMR (Fidelity), Blackrock Advisors. But even good “stock” money can be a fantastically bad picture from time to time, so no one is infallible in their selection.
2. The analysis of opinions
I like the analysis of price targets (price targets) and ratings for the reason, their predictions, as a rule, on the basis of estimates of Discounted Cash Flows ( Discounted Cash Flow (DCF)). The result is, they depend on realistic numbers and projections. Valuation DCF can be more severe in those of biotechnology companies, have a small number of products in production, as little likely to make a mistake. In addition, biotech valuation is not so connected with the macroeconomic changes and large cap stocks. As a simple example, the number of people suffering from heart disease does not depend on, we are in the market for bulls or bears, but shares of Google will vary depending on broader market factors.
Absolutely true, that most of the Research Team’s (team market research) have strong conflicts or interests, when it comes to companies, they cover. Often changes in estimates associated with the ongoing financial transaction in one of such companies. Such Teams of Researchers very rarely give a recommendation “To sell”, so it's goodbye to any future financial transaction. Teams of Researchers are often moderately to embellish future, than it really is, because the reputation is more important for them and important for them to keep the capital under control.
Based on this, look at the price target from several firms, and not from one or two. Look at the estimates of most private analysts. The more we show interest in buying, the better. You should also pay attention to the average price target, which should be higher 40% compared to the current price. Ideally, more than three analysts are saying “Buy” with a price target more than twice, than the current price.
Research report is a very useful, but usually does not offer additional information, except the one that is available to the public. There are many research reports, but it's other people's opinions, that should not be a substitute for your own opinion. Reports of Teams of Researchers is more than enough for a private investor.
As well as with institutional investors, take time to learn who they work for. In my experience, Canaccord Genuity, Collins Stewart, Cowen, Jefferies and usually offer plenty of good research for Small Cap Biotechnology. Usually in Teams of Researchers share, there are many MBA, MD and PhDs from leading universities, creating an impeccable reputation over the years in the biotechnology industry.
3. Short Interest
Before that, we talked about institutional ownership (there are no owners with more packages 5%) and weak analytical activity, are red flags in Biotechnology, that can lead to more risky game when placing long positions. The third potential risk – this Short Interest (how much is stock short of the total number of outstanding shares). Short Interest can be found in any of the financial sites, but I like the website DailyFinance.com, because here is a graph of the change of Short Interest over time, in addition to the usual data Short Ratio and Days to Cover.
Short Interest suggests, how many now chortitza stock and for sale borrowed funds, then to return to the lender. The vast majority of it is done by the managers of hedge funds. As I said earlier, this is a professional, more experienced investors, having much more resources and time to study the company, than any private investor. Thus, opening a long position in stocks with large Short Interest, you are playing against professionals. This activity is akin to playing Blackjack in Las Vegas, you can sometimes win, and sometimes to win a lot, but will have to play very long.
This brings me to one of the most hackneyed phrases when trading stocks, as “Short Squeeze”. In theory, a Short Squeeze occurs with positive fundamental changes in shares, the shorts. Caught traders abruptly shorts close their positions, which leads to a rapid growth in the share price.
The theoretical reason for the Short Squeeze all the time at the hearing, and happen from time to time. Writers of articles, and promoters call it “high potential Short Squeeze”. But even if Short Sqeeze was predicted, it may not be implemented. Most often, positive fundamental changes do not come to mind, and hedge funds with short positions, as planned, will their profits. Even then, when undergoing positive fundamental changes, share price changes, reflecting the news without any change period and the more overbought.
The phrase is particularly insidious, as it has a tendency to attract those, who is especially susceptible to simple aspects of human nature, which kill the invested profit. Greed, the thirst for quick profit, pride, starts there, where professional traders are wrong and affected the most undisciplined investors.
In conclusion of my speech about Short Squeze, I want to add: when someone tells you to buy stocks, because there is a possible Short Squeze, think about, what they are really telling you, – this promotion is good for purchases, because professional traders find it to be horrible. It makes no sense!
Not all stocks with high Short Interest are bad for long positions. For example, there are stocks with a large number of institutional owners and high Short Interest. A specific example Vivus (NASDAQ: VVUS), the developer of the drug from obesity and pills for erectile dysfunction on the stage of the final phase of the research. It now “the battleground stock”. Has a lot of owners with packages more 5%, such as Chilton, Caxton, Suttonbrook and First Manhattan, and while Short Interest 23% of the total number of shares in the market, what makes this company one of the 100 zashitnik on NASDAQ. Someone, apparently, very wrong here. Likely to have large interests on the one hand, and with the other.
In General, Short Interest 10% characteristic of small biotechnology companies, but if he 20%, then it is dangerous. Combining Short Interest with information on institutional ownership and analytic views it is possible to achieve a more complete understanding about a particular stock.
4. Risk “dilution” stock
There is always a risk during holding of shares of any biotech company, but especially the, which is soon approaching an important event, and if you are planning an additional issue or sale of shares. An additional issue of shares is related to the fact, what company wants to raise additional funds to Finance current business operations. Increasing the total number of shares reduces the total number of owners per share. It's called “dilution” existing shareholders. This event can have serious consequence for the stock price and is a typical drop in 10%.
The timing of additional equity offerings, as you know, it is hard to predict. If it was easily predictable, the price would drop below before this event, and the company would collect less money. Management is interested, to the terms of razvodnoe was completely unpredictable.
There's some information, which will help you to predict, approximately when might be a dilution. First, this is how much the company cash to continue operations in the normal mode. This information can be found in the quarterly press release, which is accompanied by a 10Q or 10K SEC Filing. Financial Director, as a rule, thoroughly explains, how they have enough cash until the next quarter. If you have cash more than 24 months, the risk of dilution is minimal, but still not a guarantee. You can also watch, when last held dilution, the company is unlikely again to razvodyat stock, not to scare shareholders.
You always have to expect, the company naleznosci less than 24 months, can rozvodnice shares for three quarters before the expected main event. Someone can say, what “If they are dilutive shares, they expect bad results. Otherwise, why not raspoznat after at a higher price?”. These commentators are extremely right. This is because, even the company is unable to predict with confidence, she will be successful at any stage of development and especially at the stage of FDA approval. The company will try always to conduct dilution before an important event, thereby reducing the risks.
After dilution, the most important information, which should pay attention, is the price of accommodation. As a rule, the company will place the shares at a fixed price. Price gives a lot of insight for the investment community, discussing his justice. The offering price significantly below the current price, is serious “red flag”, while the offering price close to current level may not be so important, and can give a positive attitude, to institutional investors to increase their packages (cm. Part 1).
There are several strategies to mitigate the risk of dilution. First, just averaging your position. Instead of immediately open a big position, type it in two, three or more deals with a break of two to three weeks. Thus, dilution has a negative impact only on a part of your package, than if the dilution happened the next day, after you at once gained all the position.
Another way to reduce the risk of potential dilution – to buy it after dilution, assuming, the location is about a reasonable price, and the stock price will recover quickly. For those biotech companies, who are about to have an important event. A recent example of the dilution, followed by rapid recovery (and rally) is BioSante Pharmaceuticals ( NASDAQ: BPAX ), which has placed shares on the $25 million. for the price $2.06 per share, and then came the rally, with the result that the price rose to $3.00 less than three months. Dilution can be a good time, to enter a position. Or if you already hold shares, the dilution is one of the rare cases, when you can double your position, instead of leaving with a loss.
5. The risk of an Important event (Catalyst)
In order to survive and earn when investing in biotechnology, you should be aware of Important Events (Catalysts), about minor and major events, and to highlight what factors primarily affect the company's share price, and what in the second. These events typically represent Data Releases, and Regulatory Decisions FDA, but can also include sales reports, and judicial decisions. For Catalysts needs to be carefully watched, as the price of stocks can change in two, and even three times, depending on a positive or negative Catalyst, accordingly. The dates of these events can be found by examining the press releases of the company, presentations and quarterly SEC filings (SEC Fillings) (10Qs and 10Ks).
Realizing that, that the company will soon be an Important event, you need to properly conduct a risk analysis of the Catalyst, as it is associated with some reduction. The easiest way to do this: not hold an open position through the Catalyst. Another way to cut your losses is to reduce your position or hedging options. What would you choose, a good strategy, when you get close to Catalyst, first determine the maximum percentage of the portfolio, you are willing to lose, and according to this to adjust the position or to hedge. My personal loss limit, I offer, it is no more 5% from a portfolio, but it all depends on risk appetite.
If you reduce the size of your position, the first thing to do, to determine the price of shares in “worst case”. For small developing sitehow, worst case, as a rule, but not always, is the price based Cash per share (Cash per Share). Then, set your position in accordance with the, your portfolio, in the worst scenario, lose no more 5%.
Options are also a great way to control Risk Catalyst. Protective PUT’s purchased from the price, acceptable for you which reflects the loss on Catalyst. Selling covered Call’am, you can get the prize in your pocket, preventing the lowering of. Straight Call and Put much more difficult actually, than they seem, and you will not be able to be profitable, even if you correctly guess the outcome of the Catalyst, as the possible collapse of volatility, but they offer a high potential of winning with a certain decline.
I strongly advise you not to take a position before the FDA decision on the use of a New Drug (NDA) (it is PDUFA). I can tell you, even professional investors have extreme difficulty predicting the results of these events. Some argue, more correct game through the PDUFA date are PUT’s SHORT’s, since the market tends to react stronger to negative data, than positive. Others say, that game against prevailing market sentiment is the correct one, due to the very unpredictable nature of the FDA. Anyway, keep in mind, that the FDA is extremely unpredictable in its decisions on NDA and opening simple Long or Short position your trade turns into a roulette, unless of course you are this guy.
BioRunUP – subscription service, seeking to earn money directly in front of the Catalyst or between them, but not through him. A good strategy, to avoid the risk of Catalyst. The strategy seeks, to use the model of price action is common for most companies, currently under development. Most of my own investments will be classified as a Run-UP strategy. I sincerely recommend BioRunUP as the strategy itself, and subscription service, as this is a valuable way to increase your profit when investing in biotechnology. The strategy of, valuable services, and I can 100% safe to say, Mike and mark will never use their subscribers to receive short-term benefits. They sincerely want, to you everything was fine.
I would also like to recommend the book, The Biotech Trader Handbook Tony Paliza as a source for different strategies, developed for Catalysts. Using strategies such as the butterfly, fluctuations, spreads and more, Tony Pelz describes a number of ways to profit from the Catalyst, regardless of whether it was positive or negative. Ought to read those, who is not familiar with the advanced options strategies, because it has a lot of information regarding the overall investments in biotechnology, and those who trades StockPicking.
Looking for great holders, paying attention to analysts ' opinions, considering the Short Ratio, managing dilution risks and Catalysts, properly, you can greatly reduce your overall risk when investing in biotechnology.
I urge you to turn around and check on these principles, and I'm sure, you will see, that biotech, who are these guidelines for much more successful, those that fall flat. Here are some examples of biotech stock, that fit these guidelines, as well as some selected future.
Amarin Corporation (NASDAQ: AMRN) – Amarin was the ideal case until the announcement of the results of the research Phase III of its drug AMR101. He had three institutional investor, owning packages 5% – Orbimed, Abingworth, Fidelity. Analysts predicted a price more than two times higher than the current one in April the share price, which averaged $7.00 and unanimously said “buy”. Short Interest was extremely low and was approximately 2.5% of the total number of shares outstanding. Cash was more than $100 million, which covered operating activities more than 24 months. Phase III data expected in the second half of April. Amarin has placed the data of Phase III in accordance with all primary and secondary requirements. The stock price has increased about two times after the published data.
Amarin was an exceptional game, in accordance with all guidelines, that I have outlined. And even now, analysts predict a target price $24.00, what is 64% premium from the current price level.
Pacira Pharmaceuticals (NASDAQ: PCRX) – Pacira represents another ideal case. Pacira was and remains the property of insiders with huge chunks of stock, owned by Orbimed, HBM Bioventures and MPM Asset Management. Pacira has strong cash after a recent IPO and she has almost no Short Interest. Another company, about stocks which analysts unanimously said “buy”, the target is two times higher than the price level at the beginning of this year. Prior to the PDUFA date for the drug Exparel, scheduled for end of July, there was no risk Catalysts. In early April, its shares were trading around $7.00 for a long time at low volumes. In late may, the price exceeded $14.00.
BioSante Pharmaceuticals (NASDAQ: BPAX) – moving forward, BioSante tries to conform to the guidelines, good enough. Large partners have a significant interest in a small biotech and own a stake in more than 7%. The rating of the shares unanimous “buy” with an average price target of coverage $6.00. Short Interest grows, but is still within 14% of the total number. The company recently increased the cash, minimizing the risk of dilution in the short term, and expects safe and effective data for drug Libigel, to be published in the autumn 2011 year. The stock price already shows a strong rally, up from less than $2.00 at the beginning of April to $3.00 at the end of may, but this is not the limit.
I can't promise, what is the application of all these principles can lead to explosive growth as Amarin, Pacira or BioSante, but I can guarantee, what you will avoid those catastrophic surprises, which washed down the sink your portfolio. Biotechnologies are a high-risk sector, but by applying these five rules of common sense, he ceases to be.