Biotech Industry Set for a Comeback in 2023

The drug industry is now divided between those who have access to the latest treatments and those who do not. This divide has created a two-tier system, with those who can afford the latest treatments enjoying better health outcomes, while those who cannot are left behind. This disparity is unfair and unjust, and it is time for the drug industry to close the gap between the haves and the have-nots.

The stark contrast between the moods of different groups of people was evident last week when thousands of industry professionals gathered in San Francisco for JPMorgan's healthcare conference. On one side were optimistic pharma executives who have plenty of access to cash and whose stocks are trading near record highs. On the other side were small biotech bosses who are struggling financially and have had to lay off employees and suspend clinical trials.

During his presentation, Merck CEO Kenneth Frazier discussed the company's plans for the future. Frazier said that Merck is committed to improving the lives of patients and making a difference in the world. He also discussed the company's recent successes, including the launch of a new cancer drug.

Merck Chief Executive Officer Robert Davis expressed confidence in the company's future more than 20 times, telling JPMorgan analyst Chris Schott at one point: "Hopefully you're getting the sense that my confidence is quite high."

Mr. Davis is justified in feeling confident about Merck's future. Last year, the company's stock rose by 49%, even while the overall stock market (as measured by the S&P 500) lost 18%. This is impressive for a company that is facing the loss of patent protection for one of its key drugs in the next few years.

This year, the pendulum could very well swing.

There are a few factors at play here. Firstly, there's the macroeconomic environment. Just as rising rates helped drive money into defensive healthcare stocks—and away from growth areas such as biotech—stabilizing rates could see some of that money move elsewhere this year. As Umer Raffat, an analyst at Evercore ISI wrote on Friday, the “tale of 2022 large cap performance has been rates and generalist fund flows, not execution as some companies may believe.”

This year is likely to see plenty of economic ups and downs, as it looks like the economy is heading into a recession. However, new data showing that inflation eased in December means that the Federal Reserve may start to slow down its rate increases. Some traders are even predicting a cut later this year.

The biotech sector has a decent chance of staging a recovery. Some signs of this are already appearing, with the SPDR S&P Biotech ETF up 5.9% while the NYSE Arca Pharmaceutical Index is down marginally. This is a reversal from last year, when the pharma index returned 4.9% while the biotech fund declined by 26%.

At a recent conference, pharmaceutical executives expressed a lot of frustration with the recently passed Inflation Reduction Act, also known as the IRA. This act will allow the government to negotiate drug prices for the first time, and some CEOs have dubbed it the Innovation Reduction Act.

The Department of Health and Human Services released its timeline for Medicare drug-price negotiations earlier this week, with the list of the first 10 drugs selected to be published on Sept. 1. This makes the law feel a lot more tangible to investors.

In response to pressures from shareholders and the need to boost their pipelines, several big pharma companies have turned to partnering with biotech firms. During the JPMorgan conference, AstraZeneca, Ipsen and Chiesi announced three separate deals, each worth around $1 billion. Notably, each deal included contingent value rights (CVRs), which would give shareholders in the acquired company additional payments if certain drugs in development met prespecified milestones.

According to Kevin Davies, head of healthcare investment banking at Mizuho, deals like this help to ease deal-making anxiety. Pharma companies are reluctant to overpay for companies, while many biotechs are still holding out for their high valuation expectations in 2021.

The biotech sector is expected to continue its strong performance in 2023, with a flurry of deals expected to keep the sector on track. This outperformance is expected to continue throughout the year, making biotech one of the top investment sectors in 2023.