The rise in interest rates over the past year has hit biotech stocks.
Bets against biotech stocks by so-called short sellers have surged recently. That may mean the group could be poised for a comeback.
Just under 45 million shares of the
SPDR S&P Biotech
exchange-traded fund (ticker: XBI), which owns 149 biotechnology stocks with an average market capitalization of just over $11 billion, were shorted as of Monday, according to figures from S3 Partners, a financial data and analytics firm. That is about 56% of the fund’s shares, up from a low point of about 30 million in August 2022.
At that point, the ETF had been rallying for months, and market participants saw it as too expensive and ripe for bets that the price would fall. Enter the short sellers, who borrow shares and immediately sell them, hoping to buy them back at a lower price and return them to the lender, locking in a profit. The risk is that a stock’s price could rise, so short sellers often rush to close out their bets if there is a signal that shares are heading higher.
It can lead to a cycle of rising prices forcing short sellers to close their bets, sending prices higher still.
“XBI short interest is very elevated,” wrote Julian Emanuel, Evercore strategist.
A few factors underpin negative views of the stocks. Most of them are unprofitable, a problem when interest rates are still far higher than before the Federal Reserve began raising interest rates early last year. Higher rates make it more difficult to raise money, which is a problem for companies that are burning through cash. Plus, higher rates make future earnings less valuable in current terms—and most of these companies are expected to produce the majority of their profits many years in the future.
But now, a lot of the negative effects of higher rates may already be reflected in the stocks’ prices. If they show any sign of bouncing, short sellers might start to buy back their shares, triggering a move higher.
One positive indicator is that the biotech ETF is finding buying interest at a key level. Since June last year, it has seen buyers consistently come in at $74, supporting the price, which closed Tuesday at $79.73, still well below its peak of $94. A fall below $74 could open the door to a decline to the next support level at around $67, but for now, support in the mid-$70s is holding true.
Another positive for the group is that some smaller biotech companies could get bought at large premiums to their current market prices. Merck (MRK) just bought
Prometheus Biosciences
(RXDX) for almost $11 billion, a roughly 75% premium to the stock’s predeal price, as the big pharmaceutical company looks to refresh its drug pipeline. More deals could be on the way as larger drug companies look to do the same.
These small biotech stocks are risky, no doubt. But picking up a few shares of the ETF may not be a terrible idea.
Write to Jacob Sonenshine at [email protected]
This content was originally published here.
