How Hedge Funds’ Top Healthcare Bets Performed in Q1

Although the biotechnology sector was the most profitable sector in 2015, biotech stocks suffered the same fate as most others during the first quarter, having been hit by a strong selloff. The sector has been plagued by controversy, unrest, and concerns following the notorious 5,000% price increase for an old anti-infective drug foisted upon the public by Martin Shkreli’s Turing Pharmaceuticals. That spurred politicians like Hillary Clinton to vow to take action against such practices and even drug pricing in general, casting a pall over the industry that has yet to lift. There is also a mega merger on the books that has attracted a large number of investors and arbitrageurs, yet even that seemingly bound-to-be-successful event took a big hit yesterday when new tax regulations were proposed by the Treasury Department which would negate the financial benefits of tax inversions. Let’s take a look at five of the most popular biotech stocks and see how they fared during the first quarter amid this gloomy backdrop.

Our backtests showed that the 15 most popular small-cap stocks among hedge funds managed to generate a monthly alpha of 81 basis points, versus an alpha of 0.7 percentage points posted by their top 50 large-cap picks (see more details here).

Currently in the midst of a monstrous merger deal, Allergan plc Ordinary Shares (NYSE:AGN) and Pfizer Inc. (NYSE:PFE) have been the subject of intense speculation, as U.S legislators are looking to curb the trend of U.S companies buying foreign groups in order to change their tax domicile and reduce their tax bills. It is safe to speculate that Pfizer was particularly interested in acquiring Irish drug manufacturer Allergan for $160 billion for just such a tax inversion purpose. Although it seemed like the deal would not be able to be stopped in time, the U.S Treasury has now taken bold measures against tax inversions that could jeopardize the merger of the two pharmaceutical giants. The tax law loopholes that allowed for significant benefits from tax inversions have been removed and additional measures have been taken to prevent foreign companies from loading their U.S subsidiaries with debt in order to reduce their tax bill. Allergan shares fell off a cliff after the news broke, having opened 17% lower this morning, while Pfizer inched up by approximately 2% as arbitrageurs were likely closing their short positions. The Irish drugmaker had fallen by 14% during the first quarter, while the value of Pfizer shares fell by 7.3% during the same period.

It is yet unclear whether the deal will be quashed, as Pfizer could follow through with the takeover regardless. Should the merger fail, Allergan will be due a $3.5 billion “break up fee,” which should help it to ease its debt burden, so the news is not all bad. The company is also set to receive $40.5 billion from the sale of its generic drug unit to Israeli drugmaker Teva Pharmaceutical Industries Ltd (ADR) (NYSE:TEVA).

Allergan plc Ordinary Shares (NYSE:AGN) is the most popular stock among the hedge funds followed by Insider Monkey, with 159 of them having reported a stake in the company as of the end of the fourth quarter. Tiger Cub Andreas Halvorsen holds a sizable position as of that time, although he chose to reduce it by 17% over the quarter to 5.98 million shares. Billionaire John Paulson is also invested in the company, with his eponymous fund having reported ownership of 5.53 million Allergan shares as of the end of December.

Ken Fisher is betting big on Pfizer Inc. (NYSE:PFE), having increased his stake by 2% over the fourth quarter to amass more than 32.3 million shares, a position valued at more than $1.00 billion. Lee Ainslie also has high hopes for the stock, having more than 5% of his public equity capital invested in it. According to its latest 13F filing, Mr. Ainslie’s Maverick Capital holds 11.3 million Pfizer shares, up by 63% over the fourth quarter. Hedge funds like Pfizer Inc. (NYSE:PFE) overall and their sentiment towards the company also improved during the fourth quarter, with the total number of long positions having increased to 109 at the end of December from 97 a quarter earlier.

We’ll run through three more of hedge funds’ favored healthcare stocks on the next page.

Biologic drugmaker Gilead Sciences, Inc. (NASDAQ:GILD) did not escape the selloff that hit the stock market and especially the biotechnology sector, having fallen by 8.8% during the first quarter. The stock had been sliding right up to the point it issued its fourth quarter financial report, which beat market expectations. Revenue came in at $8.51 billion, up by 16% year-over-year, while profit stood at $3.32 per share. Analysts, in turn, were looking for $3.00 per share in earnings on the back of $8.13 billion in revenue. Gilead recently announced a deal to acquire a subsidiary of Nimbus Therapeutics, including an experimental drug that aims to reduce fat buildup in the liver. Gilead will pay an initial $400 million for the unit, with an additional $800 million due if the drug reaches certain milestones in research, approval and sales. The company’s coffers were bolstered with cash generated by sales of its highly lucrative hepatitis C medicines, having reported cash and cash equivalents of $26.2 billion as of the end of 2015. Due to increased competition for hepatitis C drugs and increased pressure from insurance companies, U.S sales have fallen and Gilead has turned its attention towards other experimental drugs it can acquire to add to its pipeline.

When it comes to Gilead Sciences, Inc. (NASDAQ:GILD), hedge fund managers are split: while Cliff Asness had reduced his stake by 17% over the fourth quarter, Samuel Isaly had been buying heavily, having increased his position by 57%. As reported in their respective 13F filings, Asness’ AQR Capital Management held 3.97 million shares of Gilead Sciences, while Isaly’s OrbiMed Advisors had ownership of 3.42 million shares at the end of December.

Israel-based Teva Pharmaceutical Industries Ltd (ADR) (NYSE:TEVA) is another healthcare stock that is very popular among the funds followed by Insider Monkey. During the first quarter the stock fell by roughly 17.9% as part of the overall market decline. The company’s fourth quarter results were not able to prop up the stock, despite the numbers topping analysts’ estimates, but shares have managed to stabilize around the $56 level. Teva Pharmaceutical posted revenue of $4.88 billion and earnings of $1.32 per share for the quarter, beating expectations of $1.29 per share in income and $4.83 billion in revenue. The company recently announced a delay in the takeover of Allergan’s generic drugs unit due to pending regulatory approvals and has said that it now expects the deal to be completed by the end of the second quarter.

Hedge fund sentiment towards Teva Pharmaceutical Industries Ltd (ADR) (NYSE:TEVA) registered a positive boost during the fourth quarter, with the number of long positions reported by elite funds having increased to 81 from 70 during the quarter. Together these 81 funds held roughly 17.5% of the company’s common stock. Andreas Halvorsen’s Viking Global held the largest stake in Teva Pharmaceutical among the funds we track, totaling 25.04 million shares, up by 183% over the fourth quarter. Paulson & Co was not far behind, having indicated ownership of 20.40 million shares in its latest 13F filing, up by 16%.

The biggest loser of them all is Valeant Pharmaceuticals Intl Inc (NYSE:VRX), down by more than 74% for the quarter. The troubled Canadian drug maker has been plagued by scandals in the past 12 months, forcefully pushing investors to the exits and creating serious problems for staunch investors like Bill Ackman and Jeffrey Ubben, who were heavily exposed to the stock. Mr. Ackman’s Pershing Square held 16.6 million shares of Valeant Pharmaceuticals, down by 16% over the quarter, while Ubben’s ValueAct Capital reported ownership of approximately 15 million shares in its latest 13F filing.

Valeant Pharmaceuticals Intl Inc (NYSE:VRX) took a nosedive at the end of February when the company said it was under investigation by the Securities and Exchange Commission. The stock then fell by 51% on March 15 after the company announced the departure of its CEO, Mike Pearson. These developments were just catalysts for the decline of the stock, with fears that the company’s business model is unsustainable being the main reason for the plunge. Valeant’s troubles started when reports emerged that it was using a number of specialty retailers to promote the sale of high-priced drugs and prevent patients and insurers from switching to cheaper alternatives.

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