The “takeout” valuations are often the result of analyst’s estimations and a “special flavor” of biotechnology math and logic, automatically assuming the capture of a large market share, involving a lot of “if” “but” “%” with numerous scientific and economic variables. Analysts ultimately landing on valuations of a multiple of peak sales, that are often 10 years away, of a product that has yet to exist. Given the number of variables in the equations there is room for a very wide range of outcomes, but analysts and investors have chosen to increasingly favor only the most positive of outcomes in their assessment. In that assessment traditional economic forces and competition are often ignored, with the ever increasing number of ventures going after the same indications and the same share of the pie it seems like it should not.

Wall Street by nature tends to go where the money flows and currently a lot of money is flowing in biotechnology. The demand from investors for the “product” is tremendous, so the incentives for Wall Street investment banks to deliver extensive research to support the theme are very strong. (As an aside, while research is deemed to be independent from investment banking, biotechnology companies are the best possible type of clients investment banks can dream of having, with no to little revenues, they need to raise money all the time which is how Wall Street gets paid.)

In a lot of the Wall Street analyst’s research you can find the term “de-risked” to qualify some new drug or therapy development which is ironic when, traditionally, biotechnology used to be one of the riskiest areas of the market to invest in.

With ever increasing stock prices, the notion of risk in biotechnology has been progressively receding in the background and retail investors are increasingly involved in actively trading and investing in biotechnology stocks.

Given the level of complexity in ascertaining the medical and economic potential of early stage drug and therapy development ventures, biotechnology investment used to be the exclusive domain of a relatively small group of specialized funds, with most other professional investors shying away from the sector.

The seemingly unstoppable advance in stock prices of the past 5 years has given birth to innumerable biotechnology stocks “experts”, some of them having a very short experience of financial markets and of the biotechnology industry, dispensing stock tips and the way to biotech riches to retail investors on various platforms, forums, via social media, and selling newsletters and subscription services.

In June 2015, the ETF company Proshares launched the UltraPro Nasdaq Biotechnology ETF(UBIO), a triple leveraged product designed to deliver 300% of the daily swings of the Nasdaq Biotechnology Index, earlier, in May, another ETF company, Direxion had launched the Direxion Daily S&P Biotech 3X (LABU), another triple leveraged product replicating 3 times the daily performance of the S&P Biotechnology Index(XBI). Both products designed to feed the speculative appetite of active retail traders, routinely moving 5% or more in a single session.

Today a lot of the investors chasing returns in the biotechnology sector, are doing so because of the performance of the past 5 years and not because they have a firm grasp of the science, the economic challenges involved or the earnings potential going forward, and are taking on a lot more risk than they assume they are.

Risky development stage biotechnology ventures with no revenues have now gone from the private VC market, where they used to be valued for tens of millions, or from public market valuations of a few hundred million in some cases, to now being pushed onto the public markets with multi billion dollar valuations on the back of Wall Street analyst’s narratives.

A very large number of ventures trading in the public markets would have qualified as VC only investments just a couple of years ago.

Today a lot of investors are engaging in VC type biotechnology investments in the public markets, if you combine the venture capital risk(historically high rate of failure) with the early stage biotechnology risk(historically high rate of failure), you not only get an investment with a very high risk profile but at a price that no venture capitalist would ever pay.

A notion of risk that has been obscured recently by ever increasing stock prices and the never ending spigot of money that biotechnology companies, even with sketchy prospects, seem to be able to go back to in case they run out of cash.