I was listening to a podcast this morning on my run when the guest – a market analyst and CFA – said something that almost made me stop midstride.
He said COVID-19 was under control in the United States, then it spiked a little and will be back under control again soon.
It reminded me of a famous quote popular with boxing fans. Roger Mayweather, former world champion and trainer of all-time great Floyd Mayweather Jr., once quipped, “Most people don’t know s%@# about boxing.”
You could say the same about COVID-19.
It seems as though everyone with a social media account is suddenly an infectious disease expert.
In reality, we really know very little about this virus. The information on potential therapies, preventative measures and the virus itself changes constantly.
So gambling on a biotech stock that claims to have a COVID-19 vaccine or therapy is a sucker’s bet.
Don’t do it.
Now, I’m not saying don’t play in the biotech space – far from it. Biotech is my favorite sector. No other sector provides such giant gains in short periods of time. It is not uncommon for a biotech stock to shoot higher by 50%, 100% or more on positive clinical trial data, a takeover or another catalyst.
But the sector does come with higher risk, so you want to take steps to increase your chances of success. That way, your payoff is big and your risk is reduced.
Betting on a COVID-19 stock can be like putting chips down on one number on the roulette wheel.
Instead, follow these steps, which is more like counting cards at the blackjack table. You’re not guaranteed to win, but it increases your odds…
- Pick a stock with lots of drugs in the pipeline. Companies with just one or two drugs in development have to hit on those drugs. Any setback, and the stock could be decimated.
Companies with lots of shots on goal can better withstand a drug failure. Additionally, they have more opportunities for success.
- Pick a company that has been there before, or at least has a partner that has. Getting a drug through clinical trials and through the regulatory process on the way to approval is grueling and expensive. It takes years and usually hundreds of millions of dollars.
So if a company has experience in getting a drug approved and to market, it has a higher likelihood of success than one that has never done it before.
Many smaller biotechs partner with larger biotech or pharmaceutical companies, often licensing their drugs to the bigger company. That takes the risk off the smaller company, as it will no longer have to pay for clinical trials.
It also increases the odds of approval, as the larger, more experienced company will have navigated the process many times before.
- Spread your bets. If you’re going to invest in the biotech sector, diversify your holdings. Own some small caps, midcaps and large caps. Don’t have all your bets in one disease like COVID-19 or cancer (even though cancer is many different diseases, but you know what I mean).
Own some companies that already have products on the market and others that do not. You need only one or two home runs to make your entire biotech portfolio successful, so the more shots you take, the better the odds are that one will hit.
- Cash is king. Try to find companies that have plenty of cash on the books. Biotech companies that are not yet profitable constantly sell stock to raise cash. In a company’s quarterly release, it will often tell you how long the cash it has on hand will last.
If it’s less than a year and a half, you can be fairly sure it will raise money by selling stock in the near future. That will dilute shareholders and may cause the stock to drop.
Keep in mind, even if a company has cash, it may raise more. There’s a saying in biotech: Raise cash when you can, not when you have to.
But your odds will be better that a capital raise won’t be necessary if a company has hundreds of millions of dollars instead of tens of millions.
- Look for upcoming catalysts. Some clinical trials can take years. You don’t want to be sitting on a stock that may tread water for a long time, waiting for results of a study.
Invest in companies that have multiple catalysts coming up, like clinical trial results, presentations at important conferences or a potential Food and Drug Administration (FDA) approval. When these stocks move, it can be very fast.
But if there’s nothing going on with the company to get Wall Street excited, you could be sitting with dead money for a while.
The biotech sector can generate very large gains for investors who know how to play it properly.
Taking a smart approach will greatly enhance your chances of hitting some big winners.
Chasing the latest COVID-19 stock will not.
P.S. I just released a State of the Market segment on YouTube about this exact topic. Check out my latest video here.