Words like ‘market disruption’ and ‘correction’ can strike fear into the heart of even the most experienced fund manager. However, when your investment universe is healthcare innovation – as it is for GAM’s Christophe Eggmann – they just come with the territory.
Take the bout of volatility to hit healthcare in September. Attributed in many circles to presidential hopeful Hillary Clinton’s comment on drug companies’ ‘price gouging’ tactics, this was the third market correction to hit the sector in fewer than 12 months – and Eggmann embraced it with open arms.
‘It was high time it happened,’ says the Citywire AAA-rated manager, who runs the JB Health Innovation strategy. ‘It’s important for investors to realise investing is not a straight line and there can be setbacks, especially when you’re talking about companies developing drugs in clinical trials.
‘We used the September correction to add to positions, since there were a number of companies that we had wanted to buy for a long time but which had been too expensive.
‘In the past two years, we haven’t had enough volatility. It wasn’t a normal situation, especially when you look at biotech, which by its nature is a volatile sector.’
Like many of his peers in healthcare, Eggmann was affected in the short term by the sudden drop, but he quickly recovered and was back into positive territory in October.
His long-term performance has seen him navigate this volatility to produce strong returns, having returned 164% over the past five years. The MSCI World/ Health Care benchmark has risen 128% in the same period. In 2013, following the merger of his JB Health Opportunities strategy with JB Biotech, his strategy was renamed JB Health Innovation, which has a similar investment approach. His long-term performance accounts for the returns he achieved on both strategies across this analysis period.
Adapting to change
The Zurich-based manager has been riding the sector’s highs and lows for the past 20 years. Having lived through countless market corrections, he has learned how to seize opportunities when they arise. The most recent corrections are no exception, and he has been tuning his portfolio in their aftermath.
The biggest change over the past 12 months has concerned his exposure to biotech. Having experienced a strong run in 2014, he decided to take profits from some of his key large-cap biotech bets, cutting his exposure from 35% to 15%, and throughout 2015 he has been using these corrections to increase his exposure.
However, the September correction – which followed a tweet by Clinton in response to the price of a prescription drug, Daraprim, being hiked from $13.50 a pill to $750 overnight – caught most by surprise. Declaring that ‘price gouging like this in the specialty drug market is outrageous’, Clinton unveiled a plan to drive down the cost of prescription drugs.
‘Her comment was probably legitimate,’ says Eggmann. ‘The market reaction was pretty violent, but I’m not too worried about the pricing discussion. The US presidential elections are in November next year, and it seemed more like campaign rhetoric than anything else.’
These buying opportunities led Eggmann to raise his biotech exposure to a level even higher than a year before – as of the end of October, it accounted for almost 42% of his portfolio.
Such a large shift required a few changes to his other positions, among them a reduction to his healthcare equipment exposure, as well as to some large pharmaceuticals. The latter form part of a defensive, tactical play he implemented last year.
Eggmann has trounced his benchmark over three years...
According to Eggmann, there are two main drivers pushing the healthcare sector forward: innovation and structural changes. His strategy aims to tap into both.
Diving deeper into his holdings list, we find that Gilead Sciences is currently his top position, accounting for more than 7% of his portfolio. The US group fits nicely into the first driver: it’s a research-based pharmaceuticals company focused on the discovery, development and commercialisation of innovative medicine.
‘It has one of the best risk/reward profiles in our universe,’ says Eggmann. ‘There’s a lot of concern around the sustainability of the fee market, which I think is completely overdone, and this is reflected in the valuations.’
The healthcare sector has been awash with rumours that Gilead could soon jump on the M&A bandwagon that has been rocking the industry over the past year. If Gilead decides to take part, Eggmann believes its track record in M&A bodes well for investors.
‘It bought a company called Pharmasset [in 2011], the company that developed the current hepatitis C drug called Harvoni. So, I’m pretty confident it would do a deal that would create value and bring its multiples up.’
Headline-grabbing healthcare giant Pfizer and Dublin-based group Allergan – who recently announced a deal to combine their businesses worth $160 billion – are also among the stocks Eggmann holds. At the time of writing, the deal was yet to be approved by US regulators, but it would be the third-largest deal in history, behind only AOL’s $186.2bn acquisition of Time Warner in 2001 and Vodafone’s $185bn deal for German mobile company Mannesmann back in 2000.
A long-term holder of Allergan, Eggmann insists he was not holding the company simply because it was in talks with Pfizer. ‘[Allergan] is an example of a company that has created a lot of value by making very solid acquisitions,’ he says.
Now the merger has been announced, the manager says he will watch the situation closely – and amend his exposure to both companies. ‘The question is also what will happen with Pfizer,’ he adds. ‘It has declared its intention to split up the company, so depending on what it does we might just keep one part of the business and sell the other. We have to wait and see what its strategy is.’
Another company he likes is Alkermes. While it’s not a headline-grabber like US counterpart Gilead or Pfizer, Eggmann is positive enough on the Dublin-based biopharmaceutical company and its focus on central nervous system [CNS] diseases to include among his top ten positions. ‘It’s a great company with a strong CNS franchise and I think it has interesting products in the pipeline,’ he says.
Managed healthcare offers a good example of some of the structural changes – the second driver – affecting the sector, says Eggmann. It accounts for just under 13% of his strategy’s overall exposure, with US company UnitedHealth Group among his biggest positions in this theme.
While Eggmann is a pure bottom-up stock picker, he tends to adopt a different approach for this sector. ‘We look at managed care more from a top-down, rather than bottom-up, perspective. This is because it’s more concentrated and homogenous; they are not product companies like in biotech or pharmaceuticals. The drivers are the same for all the companies.’
... And performance is strong over five years, too
Worldwide M&A activity has been setting new records throughout 2015. According to data from Thomson Reuters, the total value of transactions since the start of this year is more than $4.2 trillion. Buoyed by the availability of cheap finance, healthcare accounted for a healthy proportion of this figure – more than $600 billion.
For Eggmann, healthcare’s two drivers – innovation and structural changes – have been key to its rise. ‘As new companies develop their product pipeline and launch new products, they become attractive acquisition targets for bigger players. Every company is looking at business development and potential targets,’ he says.
‘Then there are the structural changes in the US. One relates to reimbursement, which is increasingly dependent on the treatment outcome. I think Medicare is pushing hard on this, and the focus on the value of medicine and the cost and treatment of efficient solutions will be a focus.’
Certain companies have understood the need to adapt to a new market environment, he says. ‘Patients’ spending is increasing, and they will begin to act more like consumers. This will lead to companies having to rethink their packaging and marketing strategies,’ he says.
Despite the record activity reached in 2015, Eggmann says there is no sign that M&A activity will drop any time soon. ‘Even if there’s a rate hike in December, this will have no impact on M&A activity, since we’ve heard from the Fed that its progress would be very slow,’ he says.
‘We have to focus on the fundamentals of the market that push companies to do deals. I don’t know where it’s going to lead us, but it’s going to be a major driver in healthcare for another few years.’
Looking towards 2016, Eggmann believes there are plenty of reasons to think healthcare’s rise is sustainable. ‘We will continue to see a number of very important product milestones in 2016 and there will be a number of readouts from clinical trials. I think this will be key for investor sentiment,’ he says.
‘This decade belongs to sectors and companies that have been able to demonstrate an ability to thrive in the current low-growth, slightly deflationary environment by building high barriers to entry through innovation, pricing power and strong brand recognition. This will continue to favor a sector like healthcare.’
Hepatitis C treatment
Harvoni is a medication that can cure hepatitis C. The one-pill-a-day treatment comes in at $95,000 for a 12-week course, but it has been lauded for having no significant side-effects, unlike its predecessors.
‘What happened in the hepatitis C market was clearly a revolution compared to the standard of care prior to Harvoni,’ says Eggmann. ‘This is something we benefited from, since we were invested during the development of the product.’
Companies: Roche, Bristol-Myers Squibb, AstraZeneca, Juno Therapeutics, Kite Pharma
There have been great steps made in cancer immunotherapy, and it has been described as one of the hottest fields in biopharma. One of its advantages is its adaptive powers – as an individual’s cancer evolves and mutates, the patient’s immune system evolves its anti-tumor response.
‘These are drugs that help the immune system fight cancer cells, and I think we have seen some very promising results in treating cancers that previously had a very low survival rate,’ says Eggmann.
Companies: Bluebird Bio, Spark Therapeutics
Gene therapy is an experimental technique that uses genes to treat or prevent disease. In the future, this technique may allow doctors to treat a disorder by inserting a gene into a patient’s cells instead of using drugs or surgery.
‘Companies are developing solutions by addressing the issue of defective genes in areas such as blood disorders and eye disorders,’ says Eggmann.
This article was originally published in the December issue of Citywire Americas. To sign up to receive our free magazine, follow this link.