Healthcare Business

ETF Folly: Biotech ETFs, Nothing but Confusion

The SPDR S&P Biotech (NYSEMKT: XBI) is yet another confusing ETF. Its goal seeks to track the returns and characteristics of the S&P Biotechnology Select Industry Index. Its gross expense ratio is listed as 0.35%, but its total assets are only $662 million with some 7.2 million shares outstanding. It also trades about 174,000 shares per day, still far less than any of the largest and most active biotech stocks. As it says, it is an S&P tracker, so investors might be confused into thinking that they are getting the biotech stocks in the S&P 500 or at least some amalgamation of various S&P index stocks in biotech. Guess again, if you look at its landing page. Pharmacyclics Inc. (NASDAQ: PCYC) is the largest holding, with a 3.6% weighting, even though its market cap is $6.2 billion now that shares have literally more than tripled from the lows of 2012 to the current price in 2013. Isis Pharmaceuticals Inc. (NASDAQ: ISIS) is the second largest position, with a 3.48% weighting of the ETF, yet it has a market cap of not quite $1.5 billion. Incyte Corp. (NASDAQ: INCY) is the third largest position, with a 3.24% weighting, yet its market cap is $2.9 billion. Celgene Corp. (NASDAQ: CELG) has the fourth largest weighting at 3.11%, yet its market cap of $43.6 billion is many times larger than all three of the prior companies combined. Gilead Sciences Inc. (NASDAQ: GILD) is the only one of the top five biotechs by market cap in the top 10 weightings, and it is only 2.8%.

First Trust NYSE Arca Biotech Index (NYSEMKT: FBT) is another biotech ETF flavor that is unique. Its home page shows that it is an equal dollar weighted index designed to measure the performance of a cross-section of companies in the biotechnology industry. This index is rebalanced quarterly, so there can be some wild fluctuations, depending on performance. Its gross expense ratio is 0.62% and its market cap is $261.3 million with some 5.2 million shares outstanding. The First Trust ETF trades about 54,000 shares per day. With only 20 holdings, the ETF seeks to have each stock hold about 5% of the total fund at each reset. The thing that is interesting here is that much smaller companies like Qiagen N.V. (NASDAQ: QGEN), with a $5 billion market cap, are nearly equal in weighting with the likes of Amgen Inc. (NASDAQ: AMGN). Even Sequenom Inc. (NASDAQ: SQNM), with a $476 million market cap, and Affymetrix Inc. (NASDAQ: AFFX), with a mere $282 million, market cap get to have close to the same weighting as Amgen despite its market cap being $70 billion.

Lastly, there is the Market Vectors Biotech ETF (NYSEMKT: BBH) managed by VanEck. This is the former Biotech HOLDRS, which was previously a very confusing and unrepresentative ETF of yesteryear. Now it is a rules-based index tracker that follows the overall performance of 25 of the largest U.S. publicly traded biotech companies. Its gross expense ratio is listed as 0.44%, but its market value is only $185 million, based on 3.146 million shares outstanding. Its average daily volume is also the smallest of the four major biotech ETFs featured here at a mere 44,000 shares. This one follows the biotech sector, and the four largest holdings mirror the four largest by market cap. The problem is that with 26 holdings, the top four holdings account for about 41% of the total weighting of the ETF, and that gives much more value to the largest ETFs rather than a basket. The top four biotechs are as follows: Amgen Inc. (NASDAQ: AMGN) at 13.38% weight; Gilead Sciences Inc. (NASDAQ: GILD) at a 12.27% weight; Celgene Corp. (NASDAQ: CELG) with a 8.15% weighting; and Biogen Idec Inc. (NASDAQ: BIIB) with a 7.49% weighting. This ETF is how the S&P indexes generally are tallied up by market cap, and it is therefore the most representative of being a market-weighted ETF tracking biotechs.

So, are you confused about how to invest in biotech? Of these four major biotech ETFs, investors have to guess or take a stab in the dark. The one ETF that is true to a traditional model is too small by market value and too thin by daily trading volume for some investors to even consider. Two of the four top biotech ETFs are also dominated by what may be deemed the newest big gainers, which brings on a risk of its own.

Biotech investing already comes with a higher risk profile than most other sectors. Trying to pick through the ETFs here is not quite as simple as investors might have hoped. That is only complicated by the matter that past biotech and biohealth ETFs have been closed that tried to focus on single-disease cures. The long and short of the matter is that investors who want to be in biotech via individual stocks or via ETFs have to do some serious homework before committing their funds.

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