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Biotech investing - the Good, the Bad, and the Ugly



October 19, 2008 – Comments (0)

It doesn't take much to see that most retail biotech investors don't know what they're getting into. A quick scan of CAPS outperform pitches in small cap biotechs will turn up a lot of comments like "Health is good" and "Drug approval this year". It's kind of like buying a lottery ticket with the philosophy of "Money is good" and "I have the lucky numbers". Unsurprisingly most of these picks wind up deep in the red. We can only imagine the devastation in their brokerage accounts.

So where do we start if we want to actually want to increase the balance in our accounts rather than watch them implode? The critical principle here, of course, is Buffett's first rule. The most important part of making money is not losing money. And there's no place to lose money faster than small cap biotech. With apologies to Dykstra, baby biotech is like playing baseball in a giant ballpark. It's a terrible place for home run hitters. No matter how good of a cut you get, that ball always seems to get snagged on the warning track. And that once-in-a-blue-moon homer will never make up for all the flyouts. If you've got any chance at all to make money, it's staying on top of the ball and hitting grounders back up the middle.

 Once your investing philosophy is in place, you need to learn to read your pitches. How do we distinguish between a temporarily undervalued, but stable biotech and the pipe dream that will eventually trade for a nickel? Analysts and press releases can't be trusted. Some journalists are good at picking out the most egregious scammers, but much less successful at choosing winners. So the burden falls on the investor to educate himself. I believe that the answers for the future lie in learning the lessons of the past. In the two years I've been following these stocks closely, most fall into one of the three categories: Good, Bad, and Ugly. I'll start with the Ugly, as there's not much doubt that no matter what you think of their future prospects, virtually anyone who ever bought into them has lost most of their investment. And for anyone who feels singled out, I've had substantial holdings in at least two of these companies (holdings now better suited for buying a hot dog at the ball park). Next post ...

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