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Arrowhead's Dubious Rally

Yesterday, Arrowhead Research (Nasdaq: ARWR  ) -- a company I wrote about this fall -- jumped 53% intraday on no discernible news. In that first article, I noted that Arrowhead would likely be subject to volatile swings; it's a small-cap stock with a different business model, in a field (nanotechnology) that isn't yet widely understood by investors.

I take little solace in the accuracy of my prediction, however -- in fact, I still get nervous when a stock skyrockets for no apparent reason. While I suspect that some of yesterday's jump can be attributed to large institutional buyers who were attracted to Arrowhead's long-term prospects -- volume increased 15-fold to 1.1 million shares, and some big blocks were purchased -- there was also the inevitable tag-along hyping of the stock by momentum investors.

It just so happened that an article in yesterday's New York Times pronounced that nanotechnology was now "officially on the road map" of the semiconductor industry. While this isn't news to those who read The Motley Fool regularly (I wrote about it in this article), it was a credible enough story for the momentum crowd to begin plying their trade. And they wasted no time seizing upon the chance to draw a tenuous link between the news and Arrowhead's research in the field of carbon nanotubes.

Back in October, when I first wrote about Arrowhead (and it was trading just above $3 a share), I said it was a good company for those who have a penchant for risk. I also added that it offered an attractive alternative to Motley Fool Rule Breakers recommendation Harris & Harris (Nasdaq: TINY  ) , for those looking for another nanotech "pure play." If you were brave enough to follow my advice, you've now seen a handsome return of nearly 70% on your investment. Not bad for three months.

To those who didn't, but still believe in the potential of nanotech, don't despair. While I still like Arrowhead's business model, I'm confident the stock will slide back down to more reasonable levels in the months ahead (perhaps even sooner) and give investors a second chance to get in at a more reasonable level.

At the present time, I don't see anything that could possibly justify this large of an increase in price. The company still isn't generating much in the way of revenue, and none of Arrowhead's subsidiaries -- Insert Therapeutics, Calando Pharmaceuticals, and Aonex -- have products nearing the commercial marketplace.

Unless someone has some inside news on a forthcoming development -- such as a major licensing agreements or a pending announcement of a partnership with a leading corporation -- I see little room for the company's stock to go anywhere but back down.

Harris & Harris is aRule Breakersselection. For a 30-day free trial, click here.

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Fool contributor Jack Uldrich likes roller coaster rides as much as the next person but still gets queasy nears the peaks -- because he knows they're followed by the terrifying plunges into the valleys. He is the author of two books on nanotechnology, including the forthcoming, Investing in Nanotechnology: Think Small, Win Big. He does not own any position in Arrowhead Research or Harris & Harris.

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