What’s Next for the Life Sciences Market?
It feels like we are in a critical moment for the life sciences market. We are seeing a confluence of events define the market going forward:
- The start of monetary easing – linked to declining inflation across the world;
- A near-term set of life science market catalysts driven by major clinical trial readouts at large pharma and small biotech; and
- A presidential election in the United States with important implications for the value of sector investments and the M&A market.
This moment is accompanied by an acceleration of the underlying fundamental driver of the life sciences sector: innovation.
While perhaps less visible, we believe that this fundamental driver of our sector’s momentum is far more important than what mischief the White House might cook up for drug prices next or what moves the Fed makes next.
To be clear, we aren’t suggesting complacence on drug pricing. Anything but.
Nonetheless, the ongoing accumulation of biological knowledge and its translation to therapies and diagnostics drives incredible value for humankind: avoidance of disease, improved quality of life and extension of lifespan.
And, of course, value for investors.
Macro Picture
We have heard investors recently say that the upcoming Fed rate cut is already “priced in” to biotech stocks.
We find this hard to believe. The XBI started the year at 90 and has bounced around between 80 and 103 ever since. The XBI hasn’t budged for two months and stands at 96 today. The reality is that inflation and rates have been capping biotech stocks since late 2022.
We liken the recent sector mood to that of the morning after a wild party. We are going through a multi-billion-dollar hangover in which retail and generalist investors left our sector.
Many remaining investors remain face down on the sofa – hoping for a better day ahead.
Specialists are locked into a war to out analyze the other, to find the killer short or get long a breaking biotech story. But it’s been hard to ride the big value wave up – due to the paucity of generalist entry into stocks.
Just because we are used to having our market killed by rates and inflation doesn’t mean we should accept it.
We think that the better day is coming.
The upcoming Fed rate cuts are going to be a big deal for biotech and we shouldn’t be so jaded.
Over the last sixty years we have seen major Fed rates cuts six times. The stock market has performed well following cuts two-thirds of the time and only performed poorly once (1974).
Further, these market moves were generally big but weren’t necessarily overnight and the most relevant historical analogue for today (the Volcker Period) saw the biggest up move in life sciences stocks in history.
It’s worth noting that in the one case where the Fed cut rates and the market didn’t rise (the Arthur Burns period in 1974) was a well-known situation where a weak Fed failed to curtail inflation. Inflation had not been wrung out of the economy and we saw the resumption of inflation throughout the late 1970's - eventually costing Jimmy Carter the election.
Or, put another way, history would tell us that the coming Fed rate cuts have not been fully priced in and we should expect to see the stock market perform well – given the reality that inflation appears wrung out of the economy.
In past issues we have said, perhaps foolishly, that we will see the XBI hit 120 this year.
We still think that is likely to happen.
But the big opportunity will come after 2024.
The upside opportunity isn’t about a 20% move in the market.
Rather, we ask whether life sciences stocks can double or triple from here.
History would suggest that this as a realistic medium-term possibility.
As happened in 1982, we can reasonably expect to see sector fundamentals drive (1) major growth in capital pools for life sciences, (2) substantial increases in valuations for life science investments, and (3) expansion of the sector into new areas.
A prerequisite for this type of move is already in place: a big drop in long interest rates. Long Treasury rates have fallen from 5% six months ago to around 3.7% today.
This is a huge positive for the duration sensitive biotech sector.
When rates were headed up you will recall biotech stocks were crushed, but we haven’t seen the opposite occur after the recent rate decline.
Yet.
It will take time for this dynamic to fully play out.
Just as in past episodes of Fed easing.
Fall Investor Season Has Arrived
With New York City filling up with life sciences visitors for the many ongoing life sciences post-Labor Day conferences, we have had the chance to sit down and talk with a broad range of investors.
Optimism is in the air and investors are highly focused on the ideas that will drive value for patients.
So many investors are looking for future star companies with detailed analyses and number-crunching to figure out what is going to matter.
Here are some recent conversational snippets:
- “Whether Harris wins or Trump wins the election – it’s not going to change our outlook on the sector. Bottom line, the real winner is innovation, and neither candidate is going to stop it.”
- “I think the Kymera STAT6 program is going to redefine what degraders can do and what is next in immunology. This program could create a viable oral alternative to Dupixent.”
- “I expect that M&A will pick up after the election, particularly if Trump wins. Lower rates, M&A momentum and positive catalysts are going to make for great kick at year end.”
- “We see the obesity market moving well beyond the GLP-1s and are optimistic about a range of small molecule alternatives like the Rivus mitochondrial decoupler.”
Market Chatter
Further points from recent conversations with investors and life sciences CEO’s:
- We spoke to an LP who directs billions to funds – large and small. He views event driven funds as less attractive than those that make bets on fundamentals – especially with a long/short approach.
- The biotech hedge fund LP is looking for funds that can generate steady returns while managing risk well and thinks that we need to see better returns in the SMID Cap biotech sector before he ups his bet on funds in this area.
- So many people we spoke to last week mentioned the explosion in activity following the August hiatus. The sheer volume of current business activity has been striking and has caught many off guard.
- Investors keyed into data readouts associated with ESMO, WCLC, EEC and EASD. Multiple obesity readouts coming up at EASD will impact the market.
- Investors are skittish on perceived mixed datasets in recent weeks from Alnylam, Neurocrine and others. We see upside in these names.
- There is a strong sense that the market will pick up more after the election rather than right after the upcoming Fed rate cut.
- Worries about a recession are impacting the overall market which is shifting to more defensive asset classes (not good for biotech).
- Even with the possibility of a 50-basis point cut, the view is that the election will remove uncertainty from the market and make it easier to place bets on stocks whoever wins.
- Biotech investors highly interested than getting the election behind us.
Akeso / Summit Ivonescimab Data on Sunday at WCLC
One would not normally refer to a single company’s data readout when looking at the entire market.
However, these aren’t ordinary data.
Summit Therapeutics reported on Sunday an HR of 0.51 on PFS against Keytruda® in front line advanced NSCLC.
Two relatively small biotechs just clobbered Keytruda®, the largest selling drug of 2023, in a late-stage clinical trial.
Of course, we will ultimately want to see OS data and outcomes from further indications, particularly in the U.S. But these PFS data are a big step.
Summit’s data, coupled, with recently released positive data from Vaxcyte set up the market with some of the most positive catalysts seen in years.
With a little luck on further important readouts ahead, we expect market momentum to continue to accelerate.
Investment Themes for the Months and Years Ahead
Public Biotech Markets
We believe that the public market has largely understood and appropriately discounted the implications of promising therapeutic areas such as:
- Cardiometabolic disease, especially GLP-1s for obesity
- Immunology, especially improved versions of legacy protein therapeutics
- Genetically-targeted oncology therapies
- Effective, rare disease therapeutics
- Pneumococcal vaccines
- T-cell engagers and ADCs
- RNA therapeutics
We believe that the public market has yet to properly value the implications of emerging therapeutics in areas that include:
- Small molecules and drugs that modulate GIP, GPR75 and other novel targets for obesity
- Novel targets in neuroscience, particularly muscarinics, mutation-targeted therapies (e.g., TREM2), selected cell therapeutics and orexins
- Degraders in immunology and cardiology
- T-Cell engagers in immunology
- Muscle targeting drugs, particularly myostatin inhibitors, in a consumer driven market
- Further developments in Fc gamma receptors and IgG depleting therapeutics
In a declining rate environment, we initially expect to see particularly good returns associated with lower risk, medium duration assets that include:
- Private equity plays (have been bottled up for awhile)
- Credit plays
- Commercial growth equity plays
- Specialty pharma / Gx plays (have performed well lately)
It’s notable to us that a number of specialty pharma stocks have responded particularly well to recent asset acquisitions. Investors are not yet on the hunt for long-duration high-risk assets.
We thought, for example, that the giant jump in Cipher Pharma stock on its acquisition of Natroba® from ParaPRO highlights how well the specialty pharma market has been primed for multiple expansion by emerging macro conditions.
There is dry tinder waiting for sparks right now in the emerging pharma sector.
Too many specialty pharmas are trading well below their intrinsic value potential today.
A similar trend foretold a large specialty pharma boom in 2014.
The scenario discussed herein where biotech can double or triple will come more in the medium-term as risk-premia shrink.
Private Venture Market Themes – Biotechnology
Just as obesity shifted into a translationally ready field around five years ago, we expect to see translational readiness occur in a variety of gigantic areas with strong implications for returns in the decade ahead:
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- Pan-tumor Therapeutics (e.g., MYC/Elane)
- Drugs to increase lifespan
- Bioelectronics
- Fibrosis
- Programmable cell therapies
- Hair regrowth therapies
- Female-predominant diseases
- Gene editing for agriculture
Services/Life Sciences Opportunities for Giant Companies
Other commercial areas where explosive growth (and large IPOs) may lay ahead include:
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- Innovative value-based care delivery models that leverage biosciences know-how
- Applications of ‘Omics technologies to areas like healthcare and insurance
- AI-enabled consumer-driven comprehensive care, particularly for patients that do not have good access to care
- AI-enabled hospitals and urgent care ambulatory clinics (e.g., emergency department decision-making)
Biotech Capital Markets Outlook
We have seen September kick off the secondary issuance market in biotech with a boom. $1.5 billion in paper hit the market in the four days after the Labor Day holiday.
A considerable amount of additional secondary biotech paper is likely to come to market in the next six weeks.
This will likely be driven by companies reporting data and a desire of biotech CEOs to avoid having to raise money around the election.
We are seeing high quality issuers and those with good datasets able to complete financings while non catalyst driven financings for smaller cap names remain tough to get done in today’s market.
As rates dropped in the Spring and returns started to turn positive after issuance we saw very high activity in the PIPEs market. It feels likely that we will see a repeat of heavy PIPE deal flow in the Fall.
There is a very good chance that September and early October issuance volume challenges the record volume seen in February and March.
A similar dynamic is at play in the IPO market where the visible queue of companies seeking to go public has lengthened considerably in recent weeks.
This week will be an important one with multiple issuers hitting the market.
The Upcoming Election: What Investors are Saying
With an election two months away, most investors prefer not to discuss politics and are resigned to moving forward no matter what the outcome.
A minority express strong views but only when pressed.
Several see the political showdown between Harris and Trump as less sector relevant than one might think because the healthcare card doesn’t differ that much by side.
Many investors worry about Trump in a large macro sense. His friendship with Russia and swaggering style concerns them.
The “anti-Trump” investors see Trump as a threat to democratic values and argue that Kamala Harris is likely to be more pragmatic than Joe Biden when it comes to the economy, taxes and biotech.
These investors note that Harris is likely to be a big supporter of the NIH and by capping Medicare spend will likely be an indirect “friend” of pharma.
Specifically, Medicare out of pocket spending caps take the brakes off of medicine usage for beneficiaries and will likely drive demand over time.
In contrast, anti-Harris investors note that she has strong tendencies toward regulating the pharma industry and cast the tie-breaking vote for the IRA. These investors note that Harris has been quick to decry the pharma industry and prices after announcing her candidacy.
Further, anti-Harris investors note that Trump should be much better for the biotech sector by being less vigilant on antitrust matters – which would stimulate greater returns among small and midcap pharma/biotechs due to heightened M&A.
There is a further sense that the executive branch has substantial discretion in how aggressively it negotiates drug prices under the IRA. The feeling is a Trump presidency will be more relaxed on these negotiations than a Harris presidency.
There is also a sense that with such a close election it is likely that we will not have any party control both the executive branch and both houses of Congress. As a result, there is a sense that we will are likely to see status quote type policies prevail – which will, ultimately, be good for the pharma sector.
Anti-Harris investors worry about capital gains tax rates under Harris and how this will impact investment flows across the economy, including biotech.
Biopharma Market Statistics
The XBI was down last week as the jobless numbers reduced the expected chance of an aggressive Fed rate cut.
The XBI is up 8% for the year to date.
The VIX has risen steadily in recent weeks as investors have fretted over the size of a Fed rate cut. There was also a flight to defensives last week, depressing the S&P, as investors became more fearful of a recession.
Biotech stocks were down 3.6% in the last week but have risen 7% over the last three months. On a disappearance adjusted basis, biotech is up 23.7% for the year to date.
It’s been quite a strong year for biotech.
The population of high value biotech companies has been growing nicely lately as companies like Vaxcyte and Summit have attracted investor interest.
The public biotech universe has dropped by roughly 100 companies (net) since May 2022. We would expect the upcoming “mini-wave” of IPOs to help reverse this trend.
The average value of a Phase 3 biotech today is $992 million – up from $781 million just a month ago. Compare this to $1 billion at the end of Q1 and $809 million at the start of 2024. We have also seen bumps up in the value of pre-clinical companies over the last month.
Driven in part by Vaxcyte and Summit, we are seeing the average EV of Phase 3 stocks with very good datasets come close to $4 billion.
The of average value of a company with a great Phase 3 dataset today is forty-two times higher than a company with no data.
We have not seen a quality premium like this before in biotech.
For comparison, the average value multiple of a Phase 3 stock with very good data to a stock with no data in March 2024 was fifteen to one.
Performance was weak the life sciences sector last week as biotech, commercial pharma, diagnostics and pharma services dropped. The total public life sciences sector worldwide is worth $10.3 trillion, down from $10.5 trillion a week before but up from $9.25 trillion at the start of the year.
We have seen a drop in the number of life science companies trading with a negative EV in the last few weeks. Globally, 134 companies today are trading at below their cash.
This metric indicates that the sector is starting to look less distressed than it was a month ago.
Other Capital Markets Trends
The U.S. IPO market has remained moribund for months. The most recent company to go public was TYK Medicines of China on August 19th.
The last U.S. IPO was that of Artiva which priced a $167 million offering on July 18th. There is a slate of companies scheduled to hit the road this week. This week will be an important test for the market.
August was quite slow month for follow-ons. The recent return from holidays combined with the prospect of Fed easing sparked a strong kick to the market last week with $1.5 billion in deals pricing, led by a large deal from Vaxcyte. We expect to see volumes continue to run strong throughout this month.
Weekly volume of venture privates this year has averaged $750mm. Last week saw $789 million raised in the market. Activity in the market is normal and was spiked by a $325 million deal by ArsenalBio.
Volumes in the private debt market have remained elevated in the last several months. We have been averaging around $700 million a week in this market – the same volume as seen in the venture equity market. Last week saw $1 billion in issuance volume anchored by an offer of $850 million in exchangeable senior notes from Jazz Pharma.
Jazz’s exchangeable senior note deal was quite unusual, by the way.
Ordinarily, the term “exchangeable note” gives the investor the right to exchange their note for shares of a third company that are owned by the issuer.
Such exchangeables are rare, in general, and almost unheard of in the biopharma sector. This deal looks and feels more like a traditional convertible except that the investor does not control how Jazz settles its securities upon triggering an exchange.
Specifically, Jazz can settle the principal amount in cash or stock at its election. If you will, Jazz gets to decide when to issue stock to investors rather than the other way around as is typically the case with a convertible. One could call this structure a “reverse convertible” as it transfers some optionality to the issuer.
M&A News
There has been very little M&A volume in recent weeks.
Last week saw $198 million in M&A volume. M&A volume overall has been slow by historical standards throughout 2024.
As Q3 2024 is coming into its final weeks we are looking at an $11 billion quarter.
The market has printed $50 billion in total volume all year – which is well below volumes in any year to date over the last decade.
Recent conversations with pharma leaders cause us to believe that the volume drought is very much linked to antitrust fears and a desire by buyers to get beyond the election.
One executive noted that even licensing deal-making is being curtailed by a desire to avoid tangling with the Biden Administration as its final days tick down.
Industry News
Next week is likely to see Congress vote on the BIOSECURE Act which would limit the federal government’s ability to do business with Wuxi entities.
It is not obvious that this will pass as several members of Congress appear opposed to the Act.
A report from Catenion last week looked at R&D productivity and found that pharma R&D productivity is going up and that Novo Nordisk and Vertex have performed best.
We were thrilled to see Travere get a full FDA approval for sparsentan for IgA nephropathy. We tip our hat to the many hard-working employees and investigators who helped to get that drug across the finish line.
Vaxcyte shares shot up on data indicating that its pneumococcal vaccine candidate has potential to be superior to existing options on the market.
Vaxcyte’s market cap of $12 billion today is the highest of any R&D-stage biotech company in the world.
We were highly impressed by two publications last week in the New England Journal of Medicine showing that a BCMA t-cell engager could achieve meaningful reductions in autoimmune disease symptoms.
Perhaps, most impressively, the authors found that a full remission in refractory lupus was achieved.
Wow.
This has important implications for autoimmune therapies and suggests that recent moves by investors to invest in this area (e.g., Foresite/Samsara deal to form Vignette Bio) have a good chance to pay off.
A striking paper in JAMA Open Network linked Parkinson’s Disease to the GI damage caused by H. Pylori. While this type of connection had previously been suspected, the published data were striking and open up a new strategy for managing risk of this disease.
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