Drug Stocks Crumbling… What To Do Now!

| January 28, 2011 | 0 Comments

Big Pharma stocks are core holdings for many investors.  You might even have one or two in your own portfolio.  If you do, I’m sorry to say I have bad news for you.

Drug stocks are facing major challenges in 2011.

For years, drug stocks like Pfizer (PFE), Johnson & Johnson (JNJ), Merck (MRK), and Eli Lilly (LLY) have posted steady double-digit earnings growth.  Many of them have also provided a steady stream of income through regular dividends.

These two qualities have made drug stocks a staple in stock portfolios for decades.

Now, for the first time in a long while, many big name drug firms will see their growth rates slip into the single digits.  Here’s why…

The biggest threat to earnings growth is also the hardest problem to solve.  I’m talking about major revenue producing drugs losing their patent protection.

You see, a number of blockbuster brand name drugs will see their patents expire this year.  That means less expensive generic drugs will soon hit the market and take a big bite out of sales.

According to IMS Health, expiring patents will cost Big Pharma about $30 billion a year in sales going forward.

For example, Pfizer’s losing market exclusivity for Lipitor, the world’s best selling drug.  Eli Lilly will see their number one revenue producer, Zyprexa go off patent this year.  And Bristol-Myers (BMY) and Sanofi-Aventis (SNY) are losing patent protection for their blockbuster, Plavix.

But patent expiration isn’t the only problem.

Big Pharma is also facing growing pressure from government to cut prices.  In the US, Obamacare price reforms are expected to cut into profits.  And austerity measures are putting similar pressure on drug prices in Europe.

Some industry experts estimate regulatory restrictions on drug prices could dampen drug sales by 2 to 3 percent.

Now before you accuse me of fear-mongering, take a look at these disappointing earnings results.

Novartis (NVS) kicked off earnings season with a loud and resounding thud.  Fourth quarter profits slipped by 2% from the prior year.  Then the company warned patent expirations for two key drugs (combined annual revenue of $7 billion) would cause sales and earnings to drop further in 2011.

Johnson & Johnson’s numbers were even worse.  Their fourth quarter earnings missed analysts’ expectations and dropped 11% from a year ago.  What’s more, the company said earnings would grow only 1% to 3% in 2011 (below Wall Street’s estimates of 5% growth).

Bristol Myers’ profits dropped sharply from 2009 but met analysts’ estimates.  However, the company issued a profit forecast for 2011 well below expectations.

Astra Zeneca is the industry’s latest casualty.  Yesterday, the company said lower cost generics in the US caused a 12% decline in sales and a 5% drop in net profit.

Here’s the key…

Big Pharma’s revenues and earnings are slowing dramatically.  And this will make it very tough for their stocks to make any meaningful gains in the near future.

So what’s an investor to do?

If you’re looking for investment ideas in the drug sector, stick with biotechs.  These innovative companies are the most likely solutions to Big Pharma’s problems.

To replace blockbuster drugs going off patent, Big Pharma will look to smaller biotechs with rich pipelines of potential blockbuster drugs in development.  They’ll either buy these companies outright or cut lucrative co-development deals.

Either way, biotechs with strong product pipelines are looking at serious paydays coming down the pike.

The easiest way to play this trend is with a biotech sector ETF.  The SPDR S&P Biotech ETF (XBI) is a good choice.

However, if you want to make the big bucks, you really need to focus on individual biotech stocks.  And that’s no easy task for most individual investors to take on by themselves.  Check out my Biotech Supertrader advisory service for biotech stocks with huge profit potential.

 

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Category: Stocks

About the Author ()

Robert Morris is the editor of Penny Stock All-Stars, an investment advisory focused on discovering small-cap and micro-cap stocks that are destined to become the market’s next Blue Chips. The Wall Street veteran and small-cap stock specialist is also a regular contributor to Penny Stock Research. Every week, Robert shares his thoughts with our readers on a variety of penny stock-related topics. In addition to Penny Stock Research, Robert also writes frequently for two other free financial e-letters, ETF Trading Research and the Dynamic Wealth Report. He’s also the editor of two highly successful and popular investment advisories, Biotech SuperTrader and China Stock Insider.

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