2008 Financial Markets Preview: Looking for an oasis

The first quarter is usually a time of plenty for biotech, but this year market watchers are worried that 1Q08 - and indeed the entire first half - may be lackluster when it comes to financing and market performance.

Indeed, even though biotech had another record financing year in 2007, the funding slowed at the end amid concerns about the state of the U.S. economy. As a result, 4Q07 was the sixth worst fourth quarter for financings since 2000, and market watchers expect the year to begin on the same note.

Meanwhile, in 2H07, risk averse investors pushed down valuations of many biotech companies, particularly those that are not turning a profit. Now, despite apparently cheap stocks, even biotech specialists aren't busy bargain hunting, saying a floor under prices isn't apparent and thus the definition of "cheap" is being redefined.

Drivers for a big upswing also aren't apparent. The lack of a hot trend story means biotech is disadvantaged in the competition for generalist growth funds.

Indeed, now is definitely not the time to expect significant generalist investor interest, as many of their riskier bets are being placed in cleantech, high tech and emerging markets. These growth sectors have advantages over biotech when it comes to targeting generalists, including business models that are easier to analyze.

The broader reallocation of institutional funds away from U.S. stocks and even out of equities is another secular force.

The best hope in the current environment seems to be in the cluster of biotechs that can be seen as defensive plays. With little exposure to the credit crisis, consistent earnings growth and immunity to decreased consumer spending, a few profitable biotechs could benefit as non-cyclical growth vehicles.

The one clear oasis is M&A and partnerships. Although takeouts were smaller and less diverse than some buysiders had hoped for last year, partnering and M&A deal flow was strong and is expected to pick up in 2008.

The $60 billion raised by global biotech over the past two years - including $47.7 billion by public names - means many companies still have resources to carry forward. But managers will need to become more sophisticated about cash-raising strategies.

Competing for growth

Biotech buysiders and bankers agree it's tough to compete for speculative capital against the growth sectors currently in vogue. They also think generalists see biotech as increasingly difficult to comprehend, and as a sector where they have had difficulty garnering consistent returns.

"Non-biotech specialists get burned and burned in this sector," argued Sven Borho of OrbiMed Advisors. "It makes it difficult

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