The healthcare sector has been on a wild ride this year, thanks in large part to Martin Shkreli. It’s been up and down like a yo yo, with an emphasis on the downside over the last couple of months. According to Mark Connors of Credit Suisse, you can’t lay much of the blame for the current selloff in the sector on hedge funds, as many types of funds have been net buyers of healthcare over the last couple of months, especially of Big Pharma.
Fund managers prefer pharma over biotech
In his report of September 24th, Connors notes: “When Equity L/S (ELS) managers want exposure to the Pharmaceutical / Biotech Industry Group (S5PHRM Index) their preference for Pharmaceuticals is clear with a 2.5x overweight in gross exposure and a 7.5x preference when comparing just the net exposures.”
Connors also points out that when you consider other hedge fund strategies including Quant, Market Neutral and Event, fund managers are a bit more interested in Biotech as the ratio of Pharmaceutical to Biotech gross drops to to 2x and the Pharmaceutical to Biotech net ratio to 3x. he also highlights that this preference is “a departure from the relative market weighting between the two Healthcare segments.”
If you use the the pharma and biotech sub-industry GICS level 4 categories of S5PHAR and S5BIOT as representative benchmarks, Biotech’s $660 billion market cap is just 2/3rds of pharma’s around $1 trillion market cap. That means hedge funds are overweight Pharma relative to Biotech in both absolute terms and relative to the market.
Given that both segments were up by around 1% on the year, hedge fund managers are enjoying the benefit this market overweight in Pharma as the S5PHAR sub-industry’s five day loss of -2.5% is in line with the market and well below the -7.5% loss for the S5BIOT for biotech.
Hedge funds taking balanced approach to biotech
The above notwithstanding, fund managers seem to be taking a balanced approach to investing in biotechs. While they have reduced biotech gross exposure by 50% YTD to a net exposure of 10%, which is certainly low relative to pharma, it is still at the high end of the biotech sector’s +15 to -5% 2-year range.
In concluding, Connors says you can’t blame hedge funds for all of biotech’s woes: “Despite the recent volatility in the Biotech space and increased demand for shorts as noted by our stock loan team, net exposure has increased through short covering in Q3 for both ELS managers and the full complement of strategies. Therefore, when looking for the source of Biotech selling pressure, we suggest expanding the search beyond hedge funds.”