The biotechnology story is one that continues to highlight evolving growth opportunities in the medical field. Whether you are a believer in the high valuations or not, each of these stocks has consistently posted double-digit gains for more than half a decade and enthralled investors with its resilience.
That makes biotechnology companies worthy of consideration for those that are seeking high risk and high reward outcomes in their portfolios.
One pitfall of the biotechnology field is having the foresight to pick individual stocks that are capable of developing successful products. In the hit-or-miss style of research and development, a single misstep can be costly.
A more reasonable strategy is to access this theme though a diversified exchange-traded fund in order to spread your risk over multiple companies and potentially enhance your returns over time.
The iShares Nasdaq Biotechnology Index (ETF) (NASDAQ:IBB) is the largest and most widely traded ETF in the biotechnology industry. IBB has over $8.2 billion dedicated to 150 biotech stocks in a market-cap-weighted structure that is dominated by top names such as Biogen Idec Inc (NASDAQ:BIIB) and Celgene Corporation (NASDAQ:CELG).
In fact, the top 10 companies in IBB represent over 53% of the total asset allocation.
As you can see on the chart below, this biotechnology fund has been nearly vertical over the last three years despite a modest hiccup in early 2014.
A fund such as IBB can be an excellent way to access a benchmark-style index within the biotechnology field. However, those that are looking for specialized exposure may wish to compliment this ETF full of biotech stocks with other innovative strategies designed to capitalize on smaller companies or niche products.
One way to do that is through an equal weight index such as the SPDR S&P Biotech (ETF) (NYSEARCA:XBI). XBI has over $2.2 billion in total assets invested in 87 biotech stocks with a level distribution of assets among all holdings.
The end result is that smaller biotech stocks have a comparable pull on the performance of the fund and can impact returns in a more significant way. In addition, any mergers or acquisitions among biotech companies within the mix can often lead to a more pronounced influence on the underlying index.
Another opportunity is through a wave of new offerings from upstart ETF providers looking to specialize groupings within the biotechnology field.
The ALPS Medical Breakthroughs ETF (NYSEARCA:SBIO) is already making a splash this year with a gain of over 23%. This ETF seeks to replicate the makeup of the Poliwogg Medical Breakthroughs Index by selecting small- and mid-cap companies in both the biotechnology and pharmaceutical fields.
One of the unique factors of SBIO is that it employs liquidity, sustainability and weighting standards in its security selection process. The end result is a diversified portfolio of 75 smaller pharmaceutical biotech stocks across a range of clinical trial phases.
The dual entrance of the BioShares Biotechnology Clinical Trials Fund (NASDAQ:BBC) and BioShares Biotechnology Products Fund (NASDAQ:BBP) is a way to split your preference for early or late stage companies. Each ETF employs a vertical selection process to hone in on biotech stocks with differing technology, yet similar business cycle phases.
BBC has exposure to 68 smaller companies with a focus on development, while BBP is a basket of 36 stocks with positive cash flows and focus on driving sales growth. This split methodology allows for enhanced selection of risks and opportunities that come along with each phase.
While it’s too early to determine how these new ETFs will stack up to the biotechnology industry benchmarks, they are certainly entering the market during a celebratory period for biotech stocks. Over time, we will likely see these biotechnology indexes evolve to include new upstart biotech stocks or innovative technologies that are included in the portfolio construction methodology.
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