These 2 Stocks Will Fall After the New Year

For all of the hype surrounding gene therapy and gene editing, the precision genetic medicine approach that turned in the best 2019 may have been RNA interference (RNAi). The gene-silencing technique earned its first regulatory approval for a novel targeted delivery method. That may not sound like much to get excited about, but it promises to open up numerous high-value opportunities for RNAi drug developers.

The approval, coupled with promising early-stage clinical results and massive partnership deals, explains why Arrowhead Pharmaceuticals (ARWR 2.96%) and Dicerna Pharmaceuticals (DRNA +0.00%) erupted higher in 2019. The RNAi drug developers saw their market valuations increase by 450% and 106%, respectively, last year.

While both companies have promise, the pharma stocks are likely to fall in early 2020. What does that mean for investors with a long-term mindset?

Image source: Getty Images.

A year to remember, but investors can't forget about valuations

Shares of Arrowhead Pharmaceuticals had a pretty good first nine months of 2019, but the most impressive gains came in the fourth quarter. The RNAi stock gained heading into the American Association for the Study of Liver Diseases (AASLD) Annual Meeting in November. Investors were eagerly awaiting the results of two drug combinations being developed to treat chronic hepatitis B (CHB) by Johnson & Johnson (JNJ 0.50%) subsidiary Janssen.

The results lived up to the hype. The most impressive data came from a triple combination of an RNAi drug from Arrowhead Pharmaceuticals (now called JNJ-3989), an antiviral drug from Johnson & Johnson (JNJ-6379), and a nucleos(t)ide analog (NA). After 16 weeks of treatment, all 12 individuals in the study achieved at least a 90% reduction in two biomarkers of hepatitis B virus activity.

Investors gobbled up shares of Arrowhead Pharmaceuticals because the triple combination appears to be the industry's best hope for developing the first functional cure for CHB (although it can't be called a functional cure just yet).

Additionally, the RNAi drug candidate in the triple combination is based on a targeted delivery platform called TRiM. The approach is simple: The gene-silencing payload is attached to a special sugar that's absorbed by the liver. Since many RNAi drug candidates need to interact with DNA in liver cells, and the sugars are easily metabolized by the liver (improving safety over prior-generation lipid nanoparticle delivery vehicles), it's a perfect pairing.

It helps that just a few weeks after AASLD, Givlaari from Alnylam Pharmaceuticals (ALNY 3.02%) became the first RNAi drug candidate based on a conjugated-sugar delivery method to earn regulatory approval. It also helps that Dicerna Pharmaceuticals landed two massive partnerships in the fourth quarter of 2019 -- both based on its own conjugated-sugar delivery platform. Following those deals, there's now considerable overlap between the pipelines of Arrowhead Pharmaceuticals and Dicerna Pharmaceuticals, which are both all-in on targeted delivery.

Data source: Press releases, filings with the Securities and Exchange Commission.

Despite all of the progress from both Arrowhead Pharmaceuticals and Dicerna Pharmaceuticals in 2019, both companies are likely to fall back to Earth a bit following giant run-ups.

Consider that Arrowhead Pharmaceuticals is valued at $6.3 billion at the start of 2020. The company's most advanced drug candidate, ARO-AAT, recently began dosing patients in a phase 2/3 trial in a rare genetic liver disease associated with alpha-1 antitrypsin (AAT or A1AT) deficiency. While that study can be used for a new drug application (NDA), and the drug candidate could achieve over $1 billion in peak annual sales, that alone doesn't support a $6.3 billion valuation.

Meanwhile, the triple combination in CHB could support a market valuation well above $6 billion, especially if it proves to be a functional cure. The drug candidate could eventually earn peak annual sales of over $10 billion in that scenario. But the recent gains were spurred by results in only 12 individuals after 16 weeks of follow-up. A phase 2b trial now underway will enroll 450 patients and follow them for two years. In other words, there's plenty of time for investors to take some gains off the table.

Dicerna Pharmaceuticals is valued a little more reasonably, at just $1.5 billion, but it has only one drug candidate in mid- or late-stage clinical trials. The pipeline programs at the center of recent deals with Roche and Novo Nordisk are still in preclinical development or phase 1 studies; there's little to no clinical data from the programs for investors to survey. While the business will be flush with cash after receiving up-front payments in the coming months, there's a lot of work to be done.

Promising long-term stocks, but a little overpriced now

To be clear, both Arrowhead Pharmaceuticals and Dicerna Pharmaceuticals hold a lot of promise. Targeted delivery of RNAi drug payloads into the liver could open up considerable opportunities to treat -- for the first time, in some cases -- rare diseases, viral infections, and cardiovascular ailments. Both companies have even demonstrated early work to target gene-silencing payloads to other cell types, such as muscle tissues, which may open up additional avenues for drug discovery and development.

However, these two RNAi stocks have fallen 10.7% and 12.3%, respectively, since Dec. 3 -- and both are likely to fall a bit further in early 2020. If and when that occurs, investors may want to give each stock, especially Arrowhead Pharmaceuticals, a closer look.