Geron Corporation (NASDAQ:GERN) reached an unfortunate milestone last month. Namely, the company's short interest hit an all-time high at the end of March, with over 44 million shares now being sold short.
Why is Wall Street so deeply pessimistic about this small-cap biotech stock? I think, if the truth is told, that Wall Street isn't actually betting against Geron's long-term prospects, but rather, short-sellers realize that they still have a few more months to profit on this name in a fairly safe manner. While this trend may annoy longs, I believe patience will ultimately pay off for shareholders. Here's why.
The writing is on the wall
As a reminder, Geron is developing the telomerase inhibitor imetelstat through a licensing deal with Johnson & Johnson's (NYSE:JNJ) pharmaceutical wing known as Janssen. The drug is currently in mid-stage trials dubbed IMbark and Imerge for the bone marrow disorders myelofibrosis (MF) and myelodyspastic syndromes (MDS), respectively. Per the latest update, J&J is expected to make a call on the fate of this collaboration by the end of Q3 of this year.
Now, turning to the point of this article, I think J&J has essentially green-lit imetelstat's further development, and the market is quietly becoming aware of this fact. During J&J's Q1 conference call, for example, as Executive Vice President and Chief Financial Officer Dominic Caruso noted, "The pipeline is very strong with -- we're now eight more products we intend to file between now and 2020, each having a billion-dollar potential."
The key takeaway here is that is Caruso is including imetelstat in this elite group of experimental drugs. Imetelstat, after all, was recently listed as J&J's top New Molecular Entity (NME) in oncology on April 17 and there are exactly eight NME candidates highlighted across J&J's oncology and neuroscience pipeline progress report.
However, Caruso's affirmation and J&J's pipeline update arguably went unnoticed by the market last week. Geron's stock barely reacted to the news. But savvy investors may want to take note.
Imetelstat's risk is overstated
Why is this list of selected NME pipeline highlights so telling in regards to J&J and Janssen's plans for imetelstat? Two reasons.
First off, imetelstat's ongoing trials have been continually vetted by the Joint Steering Committee, as well as the Food and Drug Administration (FDA). And as I mentioned before, these are not double-blinded trials, and patients with MDS and MF do not spontaneously reverse course in terms of disease progression. Therefore, J&J definitely knows where these data are headed in the broad sense. If imetelstat was missing the mark, after all, J&J simply wouldn't be wasting time and money by continuing these studies.
Secondly, investors need to understand another key point about Janssen's pipeline: It's absolutely massive. At present, J&J's pharma subsidiary has 170 ongoing clinical trials, according to clinicaltrials.gov -- only two of which pertain to imetelstat. The point is that J&J decided to earmark imetelstat as a top prospect -- even though it literally has dozens upon dozens of other promising drug candidates. That's a sure sign of confidence, in my book.
Yet, Geron's stock was treated to another round of short-selling last month, pushing the company's valuation into some rather questionable territory.
A questionable valuation
I've argued elsewhere that Geron should already be valued at close to $1.5 billion, on a risk-adjusted basis, based on the drug's prospects for just myelofibrosis. J&J, for its part, has basically affirmed this valuation by repeatedly stating that imetelstat is a potential blockbuster, even as a later-line treatment for MF. The market has nonetheless seen fit to value Geron at less than half this estimate, and this figure doesn't even take the sizable commercial opportunity offered by MDS into account.
But here's where the story takes a truly odd turn. Right now, the market is head over heels for unproven gene-editing companies like Crispr Therapeutics (NASDAQ:CRSP). These stately valuations among gene-editing companies are indeed mystifying, given that this technology has yet to enter a company sponsored clinical trial at this point. Crispr, for instance, currently sports a market cap of $2.55 billion, despite the fact that there is no tangible evidence that this platform works in humans.
Geron, by contrast, has shown that imetelstat produces unprecedented responses at the bone marrow level in MF patients, and these data were published in the prestigious New England Journal of Medicine. The drug also produced exceptional results in a subset of MDS patients that led to the FDA granting a Fast Track designation for this second indication. Last but certainly not least, imetelstat's development is being handled by one of the most successful companies (Janssen) in the business.
Although it might seem like I'm picking on Crispr-based gene-editing companies, the truth is that there are several other clinical-stage biotechs that also garner far higher valuations than Geron. I'm simply using Crispr Therapeutics as one example among many to drive home the point that Geron's $608 million market cap doesn't make a whole lot of sense when viewed in this broader, industrywide context.
Coming full circle, I think short-sellers are clearly taking advantage of the fact that Geron is unlikely get an answer on the Continuation Decision from J&J until the back end of Q3. There's never been any reason to think that J&J would give a formal answer until these ongoing trials have read out, and that timeline, unfortunately, gives shorts a clear line of sight in terms of when to hit the exits.
Keeping with this theme, the options market is predicting a monstrous move in this stock by Sept. 21 of this year. The open interest in the number of call and put option contracts for September, for example, has been surging since the start of March, and the absolute numbers of contracts presently open for September far exceed that of all other available dates. So, the clock for shorts -- and longs -- is indeed ticking down.
What should investors expect going forward? My view is that shorts will start to lower their exposure to a possible positive Continuation Decision by the end of summer, which should result in a steadily, albeit slowly, rising share price over the next few months. That said, shorts will probably continue to play the enormous volatility in Geron's shares all the way to the finish line.