2 Beaten-Down Stocks to Watch Closely Next Year

Some biotech stocks are positioned to deliver outsized returns in a short period, but those that do generally come with a healthy amount of risk.

Consider, for instance, Editas Medicine (EDIT -1.08%) and BioXcel Therapeutics (BTAI 7.84%). These two small-cap biotechs are looking forward to developments that could send their shares soaring next year, and both are looking to execute strategies that could make them successful over the long run.

However, the potential downsides are massive, too. Let's consider why Editas Medicine and BioXcel Therapeutics are worth keeping an eye on right now, and whether the potential rewards of investing in these companies outweigh the risks. 

1. Editas Medicine

Editas Medicine focuses on developing gene-editing therapies for rare diseases. The company is down by 61% this year, a terrible performance it partly owes to market-wide troubles. However, the biotech has had problems of its own. Editas Medicine's leading candidate, EDIT-101, has disappointed investors in clinical trials.

EDIT-101 targets a rare eye-related disorder called Leber congenital amaurosis 10 (LCA10) that causes blindness -- or at least severely impaired vision -- from birth. There are no effective treatments for LCA10, but it only affects 1,500 patients in the U.S., making Editas Medicine's target market in this area pretty tiny.

Editas Medicine recently reported data from a phase 1/2 clinical trial for EDIT-101. The medicine is, so far, proving effective in a small pool of participants that share a characteristic only 300 LCA10 patients in the U.S. display. Going after this even tinier population would render developing EDIT-101 riskier, which is why the biotech's shares dropped on the announcement.

But Editas Medicine has a plan. It paused the study while it seeks a partner with big pockets to help it codevelop EDIT-101. This could be a great move as it would allow Editas Medicine to gain access to more funds and substantially limit the downside of developing EDIT-101. Gene-editing therapies are increasingly becoming important, as many are turning in positive results in clinical trials in treating illnesses that have so far eluded researchers. 

And for larger biotechs, developing promising clinical compounds by partnering with a smaller peer is often easier and faster than creating one from scratch in house. Finding such a partner would help Editas Medicine recoup some of its recent stock market losses.

But the company could also see some pipeline progress next year for EDIT-301, a potential therapy for sickle cell disease and transfusion-dependent beta-thalassemia. Editas Medicine has initiated phase 1/2 studies for EDIT-301 in treating both illnesses, and we could see some data from one -- or both -- within the next year. 

All that said, while Editas Medicine could become attractive if things work out the way it plans, the company remains too risky at this point. It could fail to find a partner for EDIT-101, or its potential SCD and TDT treatment could fail to prove effective in studies. That's why it's best to watch Editas Medicine for now. It could become an intriguing prospect if its master plan actualizes. 

2. BioXcel Therapeutics 

Next year, BioXcel Therapeutics could deliver solid returns as its sole product on the market, Igalmi, generates more revenue, and it records solid progress with critical programs. Igalmi, a sublingual film, earned approval in the U.S. in April to treat agitation (excessive or aggressive physical and verbal behavior) associated with schizophrenia or bipolar disorder 1 or 2.

Igalmi has only generated $137,000 in sales year to date. But BioXcel Therapeutics estimates that there are 16 million agitation episodes that Igalmi could help treat under its current indication.

Current treatment options are subpar. They include administering antipsychotic medications to patients, which come with serious potential side effects, including excessive sedation.

Igalmi can help avoid these drawbacks. And as BioXcel Therapeutics' launch of the medicine continues, the company's revenue will grow. Igalmi is still being evaluated in other clinical trials, including one targeting agitation in Alzheimer's disease (AD) patients and another going after at-home episodes of schizophrenia and bipolar disorder (it is currently approved for institutional episodes of agitation associated with both).

BioXcel plans to deliver some data from these clinical trials during the first half of 2023. If this data is positive, the company's shares will likely soar. That's because these new indications would substantially increase Igalmi's patient population. There are 100 million AD-associated episodes annually in the U.S. And the number of annual at-home agitations across bipolar disorder and schizophrenia comes in at 23 million.

The company sees a market worth $15 billion for Igalmi across all these indications. But the biotech's shares will likely drop off a cliff if its crown jewel does not succeed in its current studies. The company has a couple of other candidates, but they are unlikely to make meaningful progress soon. Igalmi's massive potential, and the fact that it has already earned a major regulatory approval, makes BioXcel Therapeutics worth keeping an eye on.

That said, biotech investors will want to wait until it reports solid pipeline progress next year before considering initiating a position.