Time to get a profit booster – by investing in drug firms – This is Money

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They say no good deed goes unpunished. That has certainly been the case for AstraZeneca, the pharmaceutical business that created a stable, barely-for-profit coronavirus vaccine that’s already been injected into tens of millions of arms across the UK. 

In a period where we’ve talked of little else but our health, and Britain’s large pharmaceutical companies have become household names, shares in Astra and its competitors have fallen in price. 

The pharmaceuticals and biotechnology index is the second-worst performer out of 40 industrial sectors within the FTSE350 Index over the past year. It has registered a fall of nearly 12 per cent compared to a jump in the FTSE350 Index of nearly 25 per cent. 

Russ Mould, investment director at wealth manager AJ Bell, says that as well as bad publicity over blood-clotting following jabs, pharmaceutical companies are simply out of favour among investors. 

He adds: ‘Investors are looking to invest in recovery plays such as retailers, travel and leisure companies – not defensive stocks such as drug developers.’ 

Yet the reality is that the focus on our health isn’t going to go away any time soon. As the National Health Service returns to working on a more normal footing, there will be demand for other drugs and procedures – as well as an attempt to build on what has been learned from the fight against coronavirus in terms of vaccines and treatments. 

In short, pharmaceutical companies ought to be in a long-term investment sweet spot, so why aren’t investors taking the tablets? 

The country’s best pharma players

In the UK, if you are talking about the pharmaceutical industry, you are essentially referencing two big players: AstraZeneca, rarely out of the news due to its coronavirus vaccine; and GlaxoSmithKline, seldom out of the business pages of national newspapers due to interest from activist investor Elliott. 

Below these two FTSE100 giants are smaller healthcare stocks, including wound-care group Smith & Nephew, and small biotechnology stocks, which are a risky investment bet because they take chances on expensively researched breakthrough treatments. 

As an investment, the pharmaceutical industry behaves differently to the biotechnology sector, although they work closely together. Biotechnology is exciting, with the possibility of a miracle treatment balanced against the fear of running out of money at any moment. 

In contrast, pharmaceutical companies are ‘defensive’, meaning they’re seen as a good investment in a crisis because they have reliable revenues. 

The theory is that governments and healthcare systems, not individuals, are the biggest purchasers of pharmaceuticals, and they buy irrespective of how the economy is performing. 

The companies are also good dividend payers, because selling pharmaceuticals is cash generative. GlaxoSmithKline has an annual dividend yield of six per cent while AstraZeneca yields just under three per cent. 

Pharmaceutical investors are keen watchers of the three ‘P’s: portfolios, patents and pipelines. Patents dictate the length of time that companies will receive high revenues from their drug portfolios. Once a product is ‘off patent’, rivals can produce a generic version very cheaply. 

Pipelines tell us what is coming up behind today’s big treatments to continue to provide an income stream for the companies. 

AstraZeneca and GlaxoSmithKline produced contrasting quarterly updates late last month. AstraZeneca reaffirmed its profits targets and predicted better times ahead. AstraZeneca’s core business has proved resilient with revenue and earnings both beating analysts’ expectations. 

GlaxoSmithKline also beat analysts’ forecasts, but Covid reduced its turnover by 18 per cent, partly because its various vaccine products including shingles vaccine Shingrix, are not being used as much. 

The company was more positive about the future, however, with chief executive Emma Walmsley saying she expects a ‘significant improvement in performance’ for the remainder of the year. Pharmaceutical experts tend to favour AstraZeneca’s pipeline and portfolio over its rival. 

Charles Luke, manager of investment trust Murray Income, says that although the vaccine is getting all the attention, it is AstraZeneca’s cancer treatments that are driving current business growth, with some exciting new treatments for other medical conditions further down the line. 

He says: ‘Oncology products such as Tagrisso, Imfinzi and Lynparza are in their early stages of growth and will continue to drive sales for the medium to long term. Other products such as Farxiga [for diabetes] and Fasenra [for asthma] continue to offer promise for the future and the company has a strong product pipeline which should result in strong sales and earnings growth.’

The company is also in the process of acquiring US pharmaceutical business Alexion for $39billion – its biggest deal ever. Alexion’s portfolio of drugs for rare diseases could bolster AstraZeneca’s pipeline. 

‘We like AstraZeneca a lot,’ says Trevor Polischuk, co-portfolio manager of specialist trust Worldwide Healthcare. 

He believes the company is a leader in the next generation of ‘targeted therapies’ for the treatment of cancer. This is a form of ‘precision medicine’ that targets proteins that control how cancer cells grow, divide, and spread. 

Polischuk is also excited by the firm’s presence in China, a healthcare market he expects will grow faster than Western markets. Polischuk does not view the coronavirus vaccine as a winner or loser for AstraZeneca. ‘Its vaccine, developed not-for-profit, is not germane to our investment thesis,’ he says. 

There’s less excitement over GlaxoSmithKline which is fighting fires on several fronts. Jason Hollands, a director of wealth manager Tilney, says hedge fund Elliott Management ‘could force change if it can gather sufficient support from other shareholders’. 

The company is already planning to split into two next year, with its consumer products business (including brands such as Panadol, Zovirax and Aquafresh), demerging from its pure pharma side. 

But Elliott may force the company to go faster and further. There is also a strong likelihood that its dividend will be cut in light of the investment required to bolster its drug development pipeline. 

But with GlaxoSmithKline’s share price on the floor, some believe now is the time to buy. George Bear, assistant portfolio manager at IG, says: ‘It has lagged behind its peers for the last few years, including AstraZeneca, Pfizer and Johnson & Johnson. So, perhaps, we could see a change in fortunes with Elliott now on board.’

Investment funds for big pharma fans 

While buying into the UK’s two big pharma businesses is one way to get exposure to the industry, buying a healthcare fund can give you access to pharmaceutical companies around the world. 

These include other large-cap pharma stocks liked by Trevor Polischuk of trust Worldwide Healthcare. 

He likes Merck because of its focus on ‘immuno-oncology’, a group of drugs that stimulates the body’s immune system to fight cancer and destroy tumour cells. 

He is also a fan of Bristol Myers Squibb, which he says has ‘the most underrated drugs pipeline in the industry’. 

If it is UK big pharma you are after as an investor, you can opt for an income fund with exposure to the sector such as Threadneedle UK Equity Income. More than ten per cent of the fund is invested in AstraZeneca and GlaxoSmithKline. BNY Mellon Newton UK Opportunities is similarly pharma heavy. 

For a more global approach, Darius McDermott, managing director of Chelsea Financial Services, likes Polar Capital Global Healthcare Trust. Top ten holdings include Bristol Myers Squibb, United Healthcare, Roche and Sanofi.

How to navigate the headwinds ahead 

While the immediate fortunes of healthcare stocks may seem linked to the coronavirus pandemic, there are many other factors to take into consideration. 

On the upside, the resumption of elective surgeries and cancer clinics should improve drug sales. Also, Gareth Blades, of boutique investor Amati, believes that lessons learned from the pandemic may also be good news. 

He says: ‘Regulators have learned new streamlined ways to operate and hopefully these will continue post-pandemic to allow more drugs to come to market to make a positive impact on patients’ lives.’ 

On the minus side, there is the likelihood of stricter pricing controls for drugs in the US. 

Tilney’s Hollands says: ‘The crisis has put a huge strain on public finances, especially in relation to healthcare systems that are, of course, the major purchasers of pharmaceutical products. 

‘While the crisis has highlighted the importance and achievements of the pharma sector, it is also adding pressure to keep drug costs down.’ 

BETTING ON THE BIOTECH MINNOWS 

While big pharma stocks are defensive stocks, biotech is anything but. The vaccine race has highlighted the difference between these two parts of the healthcare industry, but also their need to work together. 

Gareth Blades, at investment firm Amati, says: ‘The past year has seen big pharma businesses work with smaller nimble biotech companies or research institutions to generate highly innovative products – drugs and treatments that the pharma companies can then plug into their manufacturing and commercial infrastructure.’ 

Some of these biotech minnows fail catastrophically. Others, such as Novavax, have seen their share prices rocket thanks to vaccine breakthroughs. Investors can get exposure to a diversified portfolio of these exciting biotech minnows through several funds. RTW Venture and Syncona focus on cutting-edge science while BB Biotech, Biotech Growth and International Biotechnology specialise in the biotech sector.

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