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Here’s Why Biotech Is Underperforming So Badly Right Now

Tuesday, November 8, 2016 12:57
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From Tony Daltorio: There’s been no stock market sector “sicker” in 2016 than the pharma and biotech sectors. The S&P Pharmaceuticals Select Industry Index is down a whopping 22.5% over the past 52 weeks, while the S&P Biotechnology Select Industry Index fell nearly 24% over the same time frame.

The bad times started last September with a tweet from Hillary Clinton about drug price gouging by specialty drug makers. The political climate has not improved with others, such as Bernie Sanders, also griping about drug pricing by pharma and biotech companies.

Yet, the biggest political risk to these industries isn’t coming from Washington D.C. It is emanating from the state of California.

Proposition 61

California voters are set to vote on Proposition 61 – the California Drug Price Relief Act.

This proposed law would mandate that California state agencies would pay no more for a prescription drug than the lowest price paid for the drug by the Department of Veteran Affairs. By law, this federal agency is given steep discounts from a drug’s list price and is empowered to further negotiate on prices for medicines.

The proponents of Proposition 61 argue that drug makers are overcharging (price gouging) California consumers and taxpayers. Supporters of the measure have spent about $17 million on TV ads and other efforts to promote the measure.

Of course, the pharma industry is adamantly opposed to Proposition 61 and have spent in excess of $110 million opposing it.

The most recent poll showed that California voters are split about 50-50 on Proposition 61.

Be Careful What You Wish For

Proponents of the measure should be careful what they wish for. The passing of Proposition 61 will not improve the quality of health care in California.

They seem to forget that the Department of Veteran Affairs (VA) has much narrower drug coverage than most other public and private plans. The VA only covers 46% of brand-name drugs and 61% of the drugs covered by CalPERS (California Public Employees Retirement System).

So if Proposition 61 is adopted, it will likely mean California doctors (and therefore patients) have far fewer treatment options than doctors in other states. It could also restrict the options of state negotiators who decide what drugs to cover.

That is a problem since federal regulations require California programs like Medi-Cal to cover allmedically necessary medicines for enrollees. So even when drug manufacturers do not offer drugs at VA prices, Medi-Cal will be forced to buy them.

Medi-Cal already enjoys substantial discounts from the drug companies. These deals would be voided by Proposition 61 since the prices are above VA prices. Medi-Cal would have to re-negotiate deals again with the drugmakers.

And for those non-Medi-Cal programs like CalPERS, if they can’t secure VA prices for VA-covered drugs, they would not be able to buy them.

These scenarios are why many patient advocacy groups are opposed to Proposition 61.

The Day After for Pharma and Biotech Stocks

But what if Proposition 61 is approved?

Since federal regulations require drugmakers to offer the same drug prices to every state Medicaid program as it does to programs like CalPERS, it is highly unlikely CalPERS would get a “deal” from the drug companies.

Also, another strong possibility is that the drug companies would raise the prices they charge to the VA in order to not see their bottom lines destroyed.

So unless our country plans to nationalize the drug companies, it is best if Proposition 61 fails.

But even if Hillary Clinton wins the Presidency and Proposition 61 passes, it’s not all gloom and doom for the stocks of the companies in the sector.

A lot of bad news has already been baked into the price over the past year. And any bit of good news – such as Prop 61 failing and a Republican Congress – will see a big lift for this battered sector.

That would translate to solid price gains for both individual stocks and broad-based ETFs such as the iShares NASDAQ Biotechnology Index (ETF)(NASDAQ:IBB), SPDR S&P Biotech ETF (NYSE:XBI) and the SPDR S&P Pharmaceuticals ETF (NYSE:XPH).

This article is brought to you courtesy of Wyatt Investment Research.

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