The future growth of the biotechnology and pharmaceutical
sectors will hinge largely on advances made in cancer treatment,
and biotech firms in particular look likely to reap the benefits of
That's not to say curing cancer is anything but a colossal
challenge, largely because cancer is many diseases that happen to
share the same name. Researchers are discovering that not only does
each cancer require specific drugs, but even the stage at which the
patient has the disease can affect the type of drug prescribed.
Still, drug companies have been saying they're optimistic about
potential treatments in the pipeline, even as they remain realistic
about the timing and costs of advancing the fight against
Investors can choose among nine ETFs to gain exposure to drug
and biotech companies. Five of them focus solely on biotech and
four others consider themselves pharmaceutical ETFs. Because I feel
the future of the fight against cancer will begin with the biotech
stocks, as opposed to Big Pharma, I'll focus on the five biotech
The Two Main Players
The most popular of the five biotech ETFs is the iShares Nasdaq
Biotechnology ETF (NasdaqGM:IBB), which trades about 463,000 shares
per day and is composed of 128 biotech stocks. The top holding,
Amgen (NasdaqGS:AMGN), is a behemoth in the biotech sector. It
makes up 9 percent of the allocation in a portfolio where the Top
10 holdings account for 46 percent. The expense ratio is an
acceptable 0.48 percent, and the high diversity among biotech
stocks makes IBB attractive to large investors.
The second-most popular biotech ETF is the SPDR S&P Biotech
ETF (NYSEArca:XBI), which trades approximately 156,000 shares per
day. This ETF has just 28 stocks, but its biggest position makes up
less than 5 percent of the total allocation. Regeneron
Pharmaceuticals (NasdaqGS:REGN) and Seattle Genetics
(NasdaqGM:SGEN) each account for 4.61 percent of the ETF and the
top 10 holdings total 43 percent. XBI's expense ratio is 0.35
The Biotech HOLDRS ETF (NYSEArca:BBH) is composed of only 12
stocks, with the top six holdings making up 96 percent of the
allocation. Amgen accounts for 38 percent and Gilead Sciences
(NasdaqGS:GILD) makes up 26 percent. The extremely high
concentration makes BBH a one-of-a kind security in the sector.
The last two biotech ETFs are not terribly popular among
investors, and each trades less than 20,000 shares per day on
average. The First Trust NYSE Arca Biotech ETF (NYSEArca:FBT) and
the PowerShares Dynamic Biotech ETF (NYSEArca:PBE) give investors
two more options. The FBT is similar to XBI in that it is composed
of 20 biotech stocks and it doesn't have an individual weighting
above 5.6 percent. PBE is made up of 31 stocks, but the holdings
vary greatly from its peers because it invests in firms that aren't
considered biotech companies by many. For example, the ETF's
largest holding is Sigma-Aldrich (NasdaqGS:SIAL), a diversified
chemicals company that supplies products to the biotech sector.
Comparing And Choosing
The composition of the five biotech ETFs vary greatly and, as
expected, so do their returns.
In 2007, a year when the S&P 500 gained 3.5 percent, the
return for these biotech ETFs ranged from -12 percent to +29
percent. The differences in returns are huge, considering we're
only talking about 12 months. BBH, the one with just 12 positions,
was the loser due to weak performances from its top holdings, which
it lives and dies with. Conversely, XBI was the big winner due to
In the following year, 2008, BBH rose from the cellar to become
the best performer, gaining 10 percent. PBE, the PowerShares ETF,
pulled up the rear with a loss of 27 percent. Keep in mind the
S&P 500 lost more than 38 percent during the year.
Last year, all five ETFs were in positive territory along with
the overall market. However, the differences were again huge. XBI
only gained 1 percent; FBT surged 45 percent. The three-year
annualized returns show FBT as the top performer, gaining an
average of 7.8 percent, with XBI the other winner in the three-year
returns contest, with annual gains of 0.8 percent.
Now on to why I own XBI, and why I prefer biotech ETFs over
biotech stocks for individual investors. My firm owns XBI due to
its lack of concentration in one position and the allocation into a
number of mid-cap stocks with big potential. The reason I prefer an
ETF over an individual biotech stock can be better told in
In 2009 investors had a 2-in-3 chance of picking a biotech stock
that would have beaten the Dow Jones Biotech Index's 5 percent
return. They also had a 23 percent chance of picking a stock that
was down at least 10 percent, and a 13 percent chance their stock
would have lost at least 30 percent. Believe it or not, there was a
6 percent chance your biotech stock lost over half its value in a
year the S&P 500 gained 23 percent.
I think I've made my point:Stick with the ETFs, not stocks.
Matthew D. McCall is editor of The ETF Bulletin and
president of Penn Financial Group LLC, a Ridgewood,
N.J.-based wealth management firm specializing in investment
strategies using ETFs.
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