A bubble in the biotech sector?

Growth-starved investors have piled into the Nasdaq in recent years, swelling the exchange's biotech index.

US biotechnology stocks have hit turbulence. The Nasdaq Biotechnology index has slid by 10% from its July peak. Since the March 2009 low, it has risen almost sevenfold, compared to a fourfold increase in the Nasdaq Composite index. In recent years, "growth-starved investors" have piled into the sector, happily paying top dollar for impressive sales growth, says Charley Grant in The Wall Street Journal.

In the second quarter, for instance, the top five biotechs by market value managed to grow combined sales by a total of 31% year-on-year. The overall stockmarket, as measured by the S&P 500, grew sales by just under 2%.

So as far as the bulls are concerned, high valuations are fully justified. But, as Ben Levisohn points out on barrons.com, "there comes a point when just rewards tip over into excess". Frothy flotations are one worry. "There has been an explosion of low-quality" initial public offerings, says Matarin Capital's Ralph Coutant. "It feels quite bubbly."

Subscribe to MoneyWeek

Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Get 6 issues free

Sign up to Money Morning

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Sign up

Furthermore, the Nasdaq Biotechnology index is on a price/earnings ratio of 85, compared to around 30 for the Nasdaq Composite (thisfigure peaked at almost 200 in 2000).The biotech sector is also on an eye-watering price-to-sales ratio of almost ten.

Not everyone is rattled. Star fund manger Neil Woodford has been "outspoken about his confidence in biotech stocks", say Julia Faurschou and Madison Marriage in the FT. But with signs of growth slowing at the bigger biotechs, making valuations harder to justify, fears of a correction seem likely to spread.

Andrew Van Sickle

Andrew is the editor of MoneyWeek magazine. He grew up in Vienna and studied at the University of St Andrews, where he gained a first-class MA in geography & international relations.

After graduating he began to contribute to the foreign page of The Week and soon afterwards joined MoneyWeek at its inception in October 2000. He helped Merryn Somerset Webb establish it as Britain’s best-selling financial magazine, contributing to every section of the publication and specialising in macroeconomics and stockmarkets, before going part-time.

His freelance projects have included a 2009 relaunch of The Pharma Letter, where he covered corporate news and political developments in the German pharmaceuticals market for two years, and a multiyear stint as deputy editor of the Barclays account at Redwood, a marketing agency.

Andrew has been editing MoneyWeek since 2018, and continues to specialise in investment and news in German-speaking countries owing to his fluent command of the language.