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The continuing pandemic has propelled Moderna Inc. from an unknown vaccine maker to a biotech superstar in a little over a year and prompted many investors to seek out the next biotech darling.

For Canadians looking to invest in the sector, the best option is likely to use exchange-traded funds, rather than hope to get in on the ground floor of the next Moderna.

Domestic choices are limited, however, so for those looking to add a bit of biotech sizzle to their portfolios, U.S. and global options may be a better bet.

One such option is the ETFMG Treatments Testing and Advancements ETF (GERM-A), which has about US$60-million in assets and holds U.S.-listed companies involved in research and development, vaccines, therapies and testing of infectious diseases.

Perhaps not surprisingly, GERM has been a standout performer among biotech ETFs. Launched in June, 2020 – when the pandemic was at its height and no vaccines were on the immediate horizon – it has returned about 30 per cent so far this year. It has a management expense ratio (MER) of 0.68 per cent and its two biggest holdings are Moderna and Pfizer Inc. (All data from Morningstar as of Oct. 7.)

GERM “is doing significantly better than your bigger ETFs like IBB and XBI,” says Jessica Ferringer, a Pittsburgh-based ETF analyst with ETF.com.

Those larger, well-established ETFs have had disappointing returns so far this year. The iShares Biotechnology ETF (IBB-Q) has an MER of 0.45 per cent, US$10-billion in assets and a year-to-date return of about 3 per cent. The SPDR S&P Biotech ETF (XBI-A) has an MER of 0.35 per cent, US$6.6-billion in assets and is down about 12 per cent over the same period.

”What that tells us is the performance this year in biotech themes is really tilted more towards large themes, particularly ones that are working or treatments for COVID or already have treatments approved,” Ms. Ferringer says.

”The biotech sector as a whole is not necessarily doing well,” she adds, which is why XBI in particular, which is equal-weighted and has less exposure to top-performing big names such as Moderna, is down for the year.

The fund’s strategy is to track the performance of the S&P Biotechnology Select Industry Index, rather than pick and choose emerging winners like the GERM fund aims to.

Ms. Ferringer also speculates that the prospect of rising interest rates may be hurting biotech generally because many in the sector are not profitable in their stage of development and so would be more affected by higher rates than companies in other sectors.

Whether ETF investors seek to buy into a focused fund or a broader biotech play, Ms. Ferringer expects investors aren’t considering biotech funds as a core holding.

”To me, it would be more of a tactical play, just to supplement their core portfolio,” she adds.

Other potential U.S.-based biotech ETFs illustrate how tough the year has been for biotech funds.

The ARK Genomic Revolution ETF (ARKG-A), with an MER of 0.75 per cent and US$7-billion in assets, is down 21 per cent so far in 2021, while the Direxion Daily S&P Biotech Bull 3X Shares ETF (LABU-A), with an MER of about 1 per cent and about US$712-million in assets, is off by about 48 per cent.

Two other biotech ETFs are in positive territory: The iShares Genomics Immunology and Healthcare ETF (IDNA-A), with an MER of 0.47 per cent and assets of US$334-million, is up about 5 per cent year to date and the VanEck Biotech ETF (BBH-Q), with an MER of 0.35 per cent and US$566-million in assets, is up around 14 per cent.

Yves Rebetez, an ETF analyst and partner with Credo Consulting Inc. in Oakville, Ont., advises would-be fund buyers to carry out some basic due diligence, such as the number of assets that the fund has attracted and its composition.

”How much money is in it oftentimes ends up being a valuation or recognition of its relevance and then you look at how it is built in terms of the companies in it, how many are they, are they leaders, are they mega cap, medium cap or small cap, do they have good financials?”

From that point, investors can compare other measures such as MERs and trading liquidity.

Mr. Rebetez points to a new option for Canadian investors to consider: the First Trust NYSE Arca Biotechnology ETF (FBT-T), which was birthed in February when the fund switched its focus from U.S. materials. The fund from First Trust Portfolios Canada is 85 per cent U.S. holdings with about two-thirds in pharmaceuticals and biotech. It has an MER of 0.80 per cent, assets of about $890,000 and is relatively flat for the year.

Toronto-based Evolve ETFs, which has carved out a market niche for itself as an innovator of thematic funds, has had success with its Evolve Global Healthcare Enhanced Yield Fund (LIFE-T), which is positioned as a defensive sector fund with a covered call strategy and enhanced yield. It features 20 health care stocks such as Novartis AG, Pfizer Inc. and Merck and Co. Inc.

The LIFE hedged fund has an MER of 0.68 per cent and $131-million in assets, and is up 13 per cent year to date. Investors can also buy LIFE.B (unhedged) and LIFE.U (U.S. dollar).

Given the limited homegrown options for pure biotech ETFs for Canadians (and the less-than-stellar performance this year generally), investors may want to consider funds that offer exposure to more of the health care industry, says John Hood, president and portfolio manager of J.C. Hood Investment Counsel in Pickering, Ont.

He likes the Health Care Select Sector SPDR (XLV-A) and the BMO Equal Weight US Health Care Hedged to CAD Index ETF (ZUH-T), “because it is really well-diversified between bios and hospitals and all different aspects of health care.” XLV has an MER of 0.12 per cent, assets of US$29-billion and is up 14 per cent so far in 2021. ZUH has an MER of 0.39 per cent, US$540-million in assets and is up 12 per cent so far this year.

Mr. Hood, who describes his firm as the first to fully embrace ETFs as the principal strategy for his clients, says he is typically overweight U.S. funds generally and describes the biotech and health care funds as “a little bit niche-y or tactical” components of a portfolio.

”Something like IBB, that’s more of a tactical thing, I might hold it for six weeks or six months, it depends how it performs,” he says.

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