While pharmaceutical stocks hold the potential for substantial gains, they also carry the threat of devastating losses
Healthcare Stocks
April 18, 2024
Pharmaceutical companies generate revenue primarily through the pricing of their drugs, which is largely unregulated, allowing for continuous price increases even if demand is not high. By 2024, global sales of prescription drugs are expected to surpass $1.18 trillion.
While media often focuses on newly released drugs with exorbitant prices, the majority of revenue comes from steadily increasing prices of existing drugs. Factors influencing drug pricing include uniqueness, competition, and effectiveness, with companies aiming to maximize revenue while balancing competition and development costs.
The three major pharmaceutical distributors dominating the market are AmerisourceBergen, Cardinal Health, and McKesson.
These distributors wield significant influence in the distribution of both brand-name and generic drugs, determining which drugs reach pharmacies and patients. They negotiate pricing with manufacturers, often keeping discounts confidential. While they primarily earn revenue from generics, they also profit from brand-name drugs through practices like forward-buying, wherein they purchase at lower prices and sell at higher ones in the future.
Moreover, wholesalers play a pivotal role in generic drug distribution, often acting as price-setters and market-makers. Their diversification into specialty drugs and other services, such as drug repackaging and just-in-time deliveries, further solidifies their position in the pharmaceutical supply chain.
Despite their crucial role, wholesalers' practices can contribute to or mitigate drug shortages, influencing costs and availability for patients and healthcare providers.
The United States holds the title of the largest producer of pharmaceuticals globally. With a market share of 42.6% as of 2022, the USA boasts a thriving pharmaceutical industry fueled by extensive research and development efforts.
Valued at $171.3 billion, the country's pharmaceutical output is unmatched, supported by a host of prominent pharmaceutical companies. Notably, the USA commands the largest pharmaceutical market for consumption and import, while also ranking as the third-largest exporter of pharmaceutical products worldwide.
Among its renowned pharmaceutical enterprises is Eli Lilly and Co, renowned for its widely recognized Prozac medication.
Pharmaceutical companies generate revenue primarily through the pricing of their drugs, which is largely unregulated, allowing for continuous price increases even if demand is not high. By 2024, global sales of prescription drugs are expected to surpass $1.18 trillion.
While media often focuses on newly released drugs with exorbitant prices, the majority of revenue comes from steadily increasing prices of existing drugs. Factors influencing drug pricing include uniqueness, competition, and effectiveness, with companies aiming to maximize revenue while balancing competition and development costs. Pricing decisions are crucial, as incorrect pricing can impact the drug's success.
Pharmaceutical companies raise prices to increase revenue for research and development, often citing the need for funding. Prices of medicines are controlled by the companies themselves, with the U.S. government not involved in regulation. Generic drugs cost less due to lower R&D and clinical trial expenses.
Overall, pharmaceutical companies have significant control over pricing, particularly for patented drugs, although legislation like the Inflation Reduction Act of 2022 introduces some negotiation mechanisms, particularly with Medicare.
Investing in pharmaceutical stocks can be enticing yet fraught with risks. While these stocks hold the potential for substantial gains, they also carry the threat of devastating losses. The biotechnology sector, which includes pharmaceutical companies, is known for its volatile nature, where stock prices can skyrocket or plummet based on clinical trial outcomes and regulatory decisions, such as those from the FDA.
Despite the allure of revolutionary products and significant breakthroughs, determining a drug's effectiveness and success rate can be challenging, especially for investors without a medical background. Analyst ratings from financial institutions may offer some guidance but can also be influenced by biases or lack of transparency.
Case in point, the rise and fall of Novavax Inc. during the COVID-19 pandemic exemplify the extreme fluctuations in pharmaceutical stock prices based on market sentiment and regulatory outcomes.
Pharmaceutical stocks, particularly large-cap ones like Pfizer, have historically performed well during economic recessions. This resilience is rooted in the essential nature of their business - people don't choose when they get sick.
Even during the severe global recession of 2008, the pharmaceutical industry remained relatively unaffected, with some companies even experiencing increased earnings per share. Investors often turn to pharmaceutical stocks during bear markets for stability and reliable dividend income.
However, a significant challenge for these companies is the expiration of patents for key medications, which can impact earnings and potentially threaten dividend sustainability. Despite this drawback, Pfizer emerges as a standout choice for dividend investors among large-cap U.S. pharmaceutical stocks due to its attractive valuation, robust dividend program, and relatively strong financial metrics compared to its peers.
Amgen and Merck also present compelling options for income investors, with each offering its own set of advantages in terms of yield, valuation, and growth prospects.
Yes, the pharmaceutical industry is indeed growing. Over the past twenty years, it has seen considerable expansion, encompassing research, development, production, and global distribution of medications. As of 2022, pharmaceutical revenues worldwide reached a staggering 1.48 trillion U.S. dollars, indicating substantial growth within the industry.
Drug discovery is an expensive and important part of the process of creating new therapies. By using AI, researchers have been recently shown to be able to generate new ideas for compounds much faster and with 90% accuracy.
Eli Lilly's Chief Information and Digital Officer, Diogo Rau, recently engaged in non-traditional experiments involving generative AI within the office. Instead of the typical drug research, Lilly utilized AI to search through millions of molecules at unprecedented speeds, far surpassing the capabilities of traditional wet labs. Skeptical company executives were curious about the practical applicability of AI-generated designs, given their unfamiliar and "weird-looking structures." These designs were presented to research scientists who, contrary to expectations, found them intriguing and innovative, sparking new ideas for drug development that human researchers might not have considered.
This unexpected positive feedback from scientists marked a significant moment for Rau and the company's approach to AI in medicine. It highlighted the potential of AI to generate creative solutions and pathways that humans might overlook, fostering greater innovation in drug discovery. The broader industry recognizes this shift, predicting that AI-generated medicines will soon become standard in pharmaceutical research. This trajectory began gaining momentum with DeepMind's AlphaFold breakthrough in 2021, which demonstrated the transformative potential of AI in biology by accurately predicting protein structures, a critical component in drug development. This milestone underscored the immense possibilities AI holds for revolutionizing the pharmaceutical industry and reshaping traditional scientific methods.
There are a number of ways to find good pharmaceutical stocks to buy. Using a basic stock screener from inside any brokerage system, you can filter results for stocks that have strong revenue and earnings growth, low debt, and high dividends. These are usually larger companies that have the resources to find additional drugs and therapies if one of the drugs go off patent - a process that happens every 10 years.
On a regular basis, you can use AI to look for important events and announcements by pharmaceutical companies which catalyze share prices and serve as a flag to investors that high growth is coming. When a pharma company achieves certain milestones in its drug development, they must make announcements of the results of their clinical trials. When they feel confident in their results, they apply for different drug approvals at the U.S. FDA. One such approval - called breakthrough therapy designations - enables a faster approval process because the drug is deemed possibly better and a true game changer for the healthcare system.
AI tools like LevelFields AI find these types of events, send alerts, and provide insights into how these stocks typically react to such events using historical pattern analysis. In many cases, the events mark the beginning of long runs in share price increases.
In the case of Saab Biotherapeutics (SABS), the stock price increased over 750% in just over a year following this designation, as shown below in the LevelFields AI platform.
Not every drug goes on to become a blockbuster, but some do. Having lots of opportunities to choose from before the big breakouts brings higher chances of successful investing.
Likewise, the mere designation of a Breakthrough Therapy - as well as other designations and company announcements - can have a profound impact on the share prices of stocks, as shown in the screenshot from LevelFields AI below:
Join LevelFields now to be the first to know about events that affect stock prices and uncover unique investment opportunities. Choose from events, view price reactions, and set event alerts with our AI-powered platform. Don't miss out on daily opportunities from 6,300 companies monitored 24/7. Act on facts, not opinions, and let LevelFields help you become a better trader.