Kenny Rogers famously sang about knowing when to hold 'em, and knowing when to fold 'em. That poker chip of wisdom definitely applies to investing in biotech stocks. Even for investors with a long-term mindset, sometimes there's not much left to do but pull out of an investment, get as many of your remaining dollars as you can, and head elsewhere.
But the decision to pull the plug on a biotech position is often a difficult one. How do you know when to get up from the table and count your chips? Here are three undeniable signs that you should be on the lookout for to know when it's time to cut your losses or secure your gains.
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1. Management is talking about "strategic alternatives"
Biotechs report that their clinical trials didn't go as planned all the time, which typically damages their share prices. But after a string of stumbles in a company's most mature programs or a particularly severe failure, there's sometimes a dreaded phrase about "evaluating strategic alternatives" that unlucky investors get to hear from a company's management.
Those "alternatives" tend to be announced at the same time as layoffs, and they typically mean that there is substantial doubt about a company's ability to continue operating, given that its most promising pipeline projects didn't pan out and that there's little hope of realizing enough revenue to keep the lights on with development collaborations moving forward. The next steps are often to try to sell off whatever pharmaceutical assets there are and to close down operations. Getting bought out by a competitor for a discount is likely to be among the more attractive options, but it isn't always on the table.
If you happen to see that the management of one of your portfolio companies is talking about strategic alternatives, you've probably already seen a parade of failed clinical trials or rebuffed bids for commercialization. Those were less severe warning signs. You probably should have thought about selling the stock long before, and you're probably sitting on some gnarly losses on your shares. But it's extremely unlikely to get any better once management is openly musing about selling the company for parts, so close your position and move on.
2. One or more competitors are far ahead (and will stay there) in penetrating a key market
There's often room for more than one competitor in biopharma markets. Two drugs that treat the same illness could have subtle or not-so-subtle differences that make clinicians prefer prescribing each of them to different groups of patients, which means the market might not be totally conquered by the first to arrive. And that's why it isn't usually worth selling a stock just because a competitor managed to commercialize their candidate and reach the market first.
A recent example of this is the pandemic. While Pfizer and BioNTech beat Moderna and Johnson & Johnson to the coronavirus vaccine market, there was so much demand for coronavirus shots that the others were able to come along afterward and still make billions.
But, not every company making a go at a COVID-19 vaccine had the same experience. Novavax got its candidate approved for sale in major markets so much later than the competition that it failed to gain enough market share to become profitable, and now it might be on the verge of going out of business. And others, like Inovio Pharmaceuticals, haven't managed to commercialize anything at all.
The lesson here is that timelines matter. And the hotter the market, the more delays in reaching the market become signs to sell.
3. You're sitting on big investment gains, and growth is slowing
The final sign that you should think about selling your favorite biotech stock is if you've seen a big run-up on your investment, and there's reason to believe that the future will be dimmer than the past.
There's no shame in selling your shares if you've got a big winner on your hands, and nobody is forcing you to keep your investments for a time horizon that Warren Buffett would be proud of. For example, if you were one of the lucky ones who invested in BioNTech before the pandemic and the commercialization of its coronavirus vaccine, starting your position five years ago, it probably makes sense to collect your bonafide eight-bagger return of 822%. And that's especially true, given that its revenue is expected to fall now that demand for its vaccine is ebbing.
Sure, you could probably hold onto it for 10 more years and perhaps get a lot more share price appreciation -- or you could reinvest your earnings into a faster-growing company that'll potentially pay off much sooner. There's no red flag requiring you to sell, but once you have a big return, it's worth thinking about whether you could get a better rate of return in the future with another investment.
