Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 145

Trends and themes in global pharmaceuticals stocks

Biotechnology and specialty pharmaceutical shares were key drivers of the post-GFC recovery in equity markets, but their stellar run came to an end in September 2015 when drug pricing and affordability were thrust into the spotlight.

Stock shocks in global healthcare

Hillary Clinton famously accused Turing Pharmaceuticals on Twitter of ‘outrageous’ price gouging following its decision to raise prices of a 62-year-old drug (Daraprim) to $750 per tablet from $13.50. Her comments sparked a sell-off in biotechnology and specialty pharmaceutical shares. Drug pricing is now an election campaign issue in the US, with some candidates talking of price regulation.

During the same period, the dubious business practices of specialty drug-maker Valeant Pharmaceuticals came under intense public scrutiny, leading to a congressional investigation; Valeant shares have more than halved since. In response, pharmaceutical executives argue that price hikes are rarely realised in full by the manufacturer (with the majority given away through rebates) and reflect the high risk, high costs and long timeframes associated with developing new drugs.

Australian stocks have done better

Interestingly Australian healthcare shares did not react to the same issues (as seen in the chart below), and were driven by more stock-specific factors.

With a large proportion of their earnings derived offshore, the weaker AUD has benefitted domestic healthcare companies. In addition, more money has flowed into the domestic sector, given it is one of the few remaining pockets of growth in our share market. As a result, the domestic sector currently trades at historically high valuations versus offshore peers. However, given Australian healthcare companies face many of the same risks as their international peers, there are arguably better opportunities to invest offshore.

Australian healthcare stocks outperformed global peers


Source: Bloomberg

Falling off the patent cliff?

The ‘patent cliff’ refers to a period between 2003 and 2013, when drug patents that protected many of the highest selling drugs in history from competition expired. The industry reacted by undertaking a wave of M&A deals while also increasing investment in lower risk drug development (such as ‘biologics’, see below) to diversify their earnings. A period of recovery and improved R&D productivity ensued.

A more subtle driver of the previous cycle was a decline in R&D productivity, which has improved since then through higher investments in lower-risk drug development. The chart below shows that the probability of success in developing new ‘small molecule’ drugs was in clear decline between 2003 and 2011, meaning companies had to conduct more trials with more drug candidates to gain approval. Recent data shows a reversal of this trend from 2010 to 2014, coinciding with a recovery in pharmaceutical valuations.

Percent of preclinical drugs ultimately approved


Source: KMR, Bernstein

Why is ‘biologics’ more promising?

In our view, the more relevant and striking driver of productivity improvement has been the development of a new drug class called biologics. Biologics are commercial products derived from biotechnology, manufactured in a living system such as a microorganism, a plant or an animal.

Data on approval rates shows that biologics carry a dramatically higher likelihood of success in being developed compared to small molecule drugs, and so those companies developing more biologic drugs are more likely to have a greater number of successful products. Small molecule drugs are synthetically produced chemicals where the drug chemistry and structure is known, but often carry less favourable side effects. Biologics on the other hand are treatments made by manipulating naturally occurring systems. Because they mimic naturally occurring pathways in the body and are typically composed of either sugars, proteins, DNA or living tissues, they tend to have less off-target effects with outcomes that are more predictable.

Approval rate for small molecule vs. biologic drugs (%)


Source: KMR, Bernstein

Our focus in looking for suitable investments is on diversified pharmaceutical shares with breadth in treatments for more favourable diseases and weighted to biologics – such as Merck & Co.  We will avoid shares that have exposure to the pricing issues highlighted earlier including generic competition – diabetes as an example strikes us as a market that will come under intense pricing and competitive pressures from generics.

 

Justin Braitling is a portfolio manager at Watermark Funds Management. This article is for educational purposes only and does not consider the circumstances of any investor. For more details on the global healthcare sector, see www.wfunds.com.au.

 

RELATED ARTICLES

The health care breakthrough that’s not an obesity drug

Defining contrarianism in three stocks

Investing in biotech and pharma

banner

Most viewed in recent weeks

Are LICs licked?

LICs are continuing to struggle with large discounts and frustrated investors are wondering whether it’s worth holding onto them. This explains why the next 6-12 months will be make or break for many LICs.

Retirement income expectations hit new highs

Younger Australians think they’ll need $100k a year in retirement - nearly double what current retirees spend. Expectations are rising fast, but are they realistic or just another case of lifestyle inflation?

Welcome to Firstlinks Edition 627 with weekend update

This week, I got the news that my mother has dementia. It came shortly after my father received the same diagnosis. This is a meditation on getting old and my regrets in not getting my parents’ affairs in order sooner.

  • 4 September 2025

5 charts every retiree must see…

Retirement can be daunting for Australians facing financial uncertainty. Understand your goals, longevity challenges, inflation impacts, market risks, and components of retirement income with these crucial charts.

Why super returns may be heading lower

Five mega trends point to risks of a more inflation prone and lower growth environment. This, along with rich market valuations, should constrain medium term superannuation returns to around 5% per annum.

Super crosses the retirement Rubicon

Australia's superannuation system faces a 'Rubicon' moment, a turning point where the focus is shifting from accumulation phase to retirement readiness, but unfortunately, many funds are not rising to the challenge.

Latest Updates

Investment strategies

Why I dislike dividend stocks

If you need income then buying dividend stocks makes perfect sense. But if you don’t then it makes little sense because it’s likely to limit building real wealth. Here’s what you should do instead.

Superannuation

Meg on SMSFs: Indexation of Division 296 tax isn't enough

Labor is reviewing the $3 million super tax's most contentious aspects: lack of indexation and the tax on unrealised gains. Those fighting for change shouldn’t just settle for indexation of the threshold.

Shares

Will ASX dividends rise over the next 12 months?

Market forecasts for ASX dividend yields are at a 30-year low amid fears about the economy and the capacity for banks and resource companies to pay higher dividends. This pessimism seems overdone.

Shares

Expensive market valuations may make sense

World share markets seem toppy at first glance, though digging deeper reveals important nuances. While the top 2% of stocks are pricey, they're also growing faster, and the remaining 98% are inexpensive versus history.

Fixed interest

The end of the strong US dollar cycle

The US dollar’s overvaluation, weaker fundamentals, and crowded positioning point to further downside. Diversifying into non-US equities and emerging market debt may offer opportunities for global investors.

Investment strategies

Today’s case for floating rate notes

Market volatility and uncertainty in 2025 prompt the need for a diversified portfolio. Floating Rate Notes offer stability, income, and protection against interest rate risks, making them a valuable investment option.

Strategy

Breaking down recent footy finals by the numbers

In a first, 2025 saw AFL and NRL minor premiers both go out in straight sets. AFL data suggests the pre-finals bye is weakening the stranglehold of top-4 sides more than ever before.

Sponsors

Alliances

© 2025 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. To the extent any content is general advice, it has been prepared for clients of Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892), without reference to your financial objectives, situation or needs. For more information refer to our Financial Services Guide. You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.