Biotech stocks and the related exchange traded fund are in the midst of a lengthy run of disappointing investors. With the NASDAQ Biotechnology Index lower on a year-to-date basis, some market participants might be apt to continue eschewing this segment.
Some experts believe that’s not the approach to take. Rather, they see opportunity forming in biotechnology stocks with potential rewards accruing to patient investors. That could highlight an opportunity with the Invesco NASDAQ Future Gen 200 ETF (QQQS ).
As its name implies, QQQS isn’t a dedicated biotech ETF, but 52% of the fund’s 203 holdings are healthcare names, and given that QQQS is primarily a small-cap ETF, small-cap healthcare often means significant biotech exposure. In other words, the Invesco ETF could be a credible biotech proxy for investors who don’t want dedicated exposure to the industry.
Why QQQS Biotech Exposure Matters
Arguably, the primary factor keeping a lid on biotech upside is the perception that these stocks are rate-sensitive. That is to say, the March reading of the Consumer Price Index (CPI), which implies the Federal Reserve could further delay rate cuts, was negative for biotech stocks and ETFs such as QQQS.
On the other hand, history indicates that the NASDAQ Biotechnology Index often moves higher in advance of rate cuts, indicating that QQQS biotech holdings could forecast rate cuts rather than react to related headlines. Beyond rates, there are other potential sparks for biotech equities. In a recent report, Morgan Stanley noted innovation and increased mergers and acquisitions activity coupled with lower interest rates could drive a new regime of biotech out-performance.
“Outside of the interest rate outlook, we believe that there remains a fundamental need for SMID biotech M&A, which is driven by the patent expirations that the large-cap biopharma companies are expected to face in the end of this decade and the highly cash-generative nature of their businesses,” noted the bank.
The possibility of more biotechnology consolidation is pertinent for multiple reasons. Specific to QQQS, the ETF’s status as a mostly small-cap fund could imply a fair amount of its healthcare holdings are credible takeover targets. Second, large-cap pharmaceutical suitors have good reasons to consider takeovers of smaller rivals as avenues for bolstering product pipelines. According to Morgan Stanley estimates, nearly 41% of 2024 big pharma revenue will lose patent protection by 2030. That percentage is higher for several cash-rich, large-cap healthcare companies with acquisitive histories.
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