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Biotech is back, and no longer bubblicious

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If I told you there is a top-performing equity market sector with mammoth and sustainable profit margins, demographic tail winds, earnings growth well above the market average and which is largely immune from a slowing global economy, you'd suspect that investors had already taken on large positions. But this is not the case. The U.S. biotechnology sector continues to receive minimal attention despite outsized returns and a promising outlook.

The global biotech sector has a checkered past, and investors have rightly been squeamish. In the late 1990s, investors were burned numerous times by biotech startups that, as investments, were no safer than betting on the toss of a coin. Money was raised, companies IPOd and investment bankers got paid, only to see many stocks go to zero when their treatment failed to pass FDA trials.

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The industry has now evolved from a highly speculative casino into a cash-generating juggernaut. The S&P Biotech Index produced revenues of $300-billion (U.S.) in 2012 with a ridiculous average gross margin of 84 per cent. The sector jumped 38 per cent for the year and has already climbed a similar amount in 2013.

Credit Suisse analyst Revi Mehrotra addressed head-on fears that biotech stocks represented another bubble:

"In '99/'00, the biotech sector's performance was (generally) driven by small and mid-cap performance as investors bought into the hopes of genomic and associated technology platforms. Now, the biotech sector's performance is driven by good "old-fashioned" product success stories from both large and small caps.

"Valuations – Hold your breath, here are PEs from March 2000 vs. Now: AMGN 56x vs. 14x; BIIB 62x vs. 26x...

"Yes, both now and in '99/'00, generalist money drove the biotech sector's performance. However in '99/'00, it was gains from tech that overflowed into biotech. This time, it is demand for quality defensive and growing earnings."

Gilead Sciences Inc. is one of Mr. Mehrotra's top picks in the sector and his optimism is shared by almost every other analyst covering the stock – out of 31 companies rating it, 26 list it as a Buy. The average target price is $63.75 (U.S.), 22 per cent above current levels. Investors looking for a more diversified approach can check out the U.S.-traded iShares Nasdaq Biotechnology Index.

Scott Barlow is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here to read more of his Insights, and follow Scott on Twitter at @SBarlow_ROB.

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About the Author
Market Strategist

Scott Barlow is The Globe's in-house market strategist. He is a 20-year veteran of Canadian investment banks, including Merrill Lynch Canada, CIBC Wood Gundy and Macquarie Private Wealth (MPW). He was a highly ranked mutual fund analyst for 10 years and then, most recently, the head of a financial adviser support team at MPW. More

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