The dynamics of the biotech industry significantly contrast with other industries within the health care sector. Most health care subsectors like medical equipment and services demonstrate resilient, defensive characteristics owing to their inelastic demand.
In short, sickness and health don’t follow the stock market, so people will always need medical services and equipment regardless of what’s happening in the economy. This is why these industries are often deemed “defensive,” meaning they’re typically resistant to economic downturns.
Biotech, however, deviates from this norm. The industry revolves around innovation and pushing the boundaries of medical science, making it an inherently speculative and risk-laden space.
Biotech companies often spend millions on drug development, navigating through complex lengthy regulatory pathways, with no guaranteed return on investment. An unfavorable clinical trial result or a regulatory rejection can cause stock prices to plummet. Conversely, positive results can send prices skyrocketing, making biotech investing something of a boom-or-bust endeavor.
“There is a high risk of failure for biotech companies, as innovations must undergo years of clinical trials and a failure can destroy the equity in a company,” says Adam Grossman, global equity chief investment officer at RiverFront Investment Group. “Therefore, returns in the space are widely dispersed, so picking individual biotech companies that will win is very difficult and risky.”
Arelis Agosto, senior health care analyst at Global X ETFs, agrees with Grossman.
“Given biotechnology firms have limited revenues, if any, from commercialized products, a lot of their market performance is based on the development of investigational treatments,” she says. “From there, only an estimated 9.6% of drugs that enter phase 1 clinical testing are expected to reach the market, though biotechnology treatments that are approved can have remarkable returns.”
Despite the potential for high returns, the biotech sector‘s inherent risks may dissuade many retail investors. This is where biotech exchange-traded funds, or ETFs, can play a pivotal role. Rather than putting all their eggs in one potentially volatile biotech stock, investors can instead spread their risk across a diversified basket of biotech companies via an ETF.
“Unless an investor has a really high risk tolerance and a strong belief that they have an edge in deciding what drugs will make it through trials, we would recommend an investor use the diversification inherent in an ETF to invest in the biotech space,” Grossman says.
By using a biotech ETF, investors can worry less about whether or not a single biotech firm will succeed or fail, and instead make a broader bet on the long-term growth of the biotech industry. “Instead of being beholden to the binary nature of biotech events, investing in a broader pool of biotech firms helps hedge risk for negative events while still having significant exposure to long-term structural shifts in the health care industry,” Agosto says.
Here’s a look at seven of the best biotech ETFs to buy in 2023:
|Biotech ETF||Expense Ratio|
|iShares Biotechnology ETF (ticker: IBB)||0.44%|
|SPDR S&P Biotech ETF (XBI)||0.35%|
|ARK Genomic Revolution ETF (ARKG)||0.75%|
|VanEck Biotech ETF (BBH)||0.35%|
|Invesco Nasdaq Biotechnology ETF (IBBQ)||0.19%|
|Global X Genomics & Biotechnology ETF (GNOM)||0.5%|
|WisdomTree BioRevolution Fund (WDNA)||0.45%|
iShares Biotechnology ETF (IBB)
A straightforward ETF for exposure to U.S. biotech stocks is IBB, which tracks the ICE Biotechnology Index. “IBB is market-cap weighted, which means larger, and presumably better-capitalized, companies represent a larger proportion,” Grossman says. “Our belief is that larger companies will be able to fund themselves through higher interest rate periods.”
Currently, IBB sports 267 holdings, with its top ranks populated by names like Vertex Pharmaceuticals Inc. (VRTX), Amgen Inc. (AMGN), Gilead Sciences Inc. (GILD), Moderna Inc. (MRNA) and Regeneron Pharmaceuticals Inc. (REGN). The ETF performed very well during the COVID-19 pandemic due to vaccine research activity, returning 25.9% in 2020. IBB charges a 0.44% expense ratio, or $44 annually for every $10,000 invested.
SPDR S&P Biotech ETF (XBI)
On the other hand, focusing more on mid- and small-cap biotech companies can potentially result in greater returns, at the cost of higher risk. If that is the case, a market-cap-weighted ETF like IBB may not provide investors with the exposure they desire. The solution is an ETF that employs a modified equal-weight methodology like XBI, which tracks the S&P Biotechnology Select Industry Index.
At each rebalancing cycle, XBI will try to allocate equal weightings to each of its 141 holdings. As a result, the ETF is not dominated by large-cap U.S. biotech stocks like IBB is. Instead, small- and mid-cap biotech stocks like Novavax Inc. (NVAX), Twist Bioscience Corp. (TWST) and Exact Sciences Corp. (EXAS) are given equal precedence. The ETF charges a 0.35% expense ratio.
ARK Genomic Revolution ETF (ARKG)
“While the majority of all ETFs are passively managed, one of the largest biotech ETFs, ARKG, is unabashedly actively managed, making bets on the names that it thinks are most likely to outperform,” says Curtis Congdon, president at XML Financial Group. Instead of tracking a benchmark index, ARKG selects its portfolio of biotech stocks based on the research of its analyst team.
Managed by famous fund manager Cathie Wood, ARKG’s focus is not only on biotech, but also biotech-adjacent health care, materials, technology and energy companies that are involved in the “genomics revolution,” which includes CRISPR, targeted therapeutics, bioinformatics, molecular diagnoses, stem cell research and agricultural biology. However, the ETF is more costly, with a 0.75% expense ratio.
VanEck Biotech ETF (BBH)
“Biotech can be a feast-or-famine industry, so the benefit of owning ETFs is reducing the chances of your investment blowing up,” Congdon says. “Of course, this diversification also limits upside, but in an already volatile sector investors still retain considerable growth potential.”
A great example is BBH, which as of June 30 has returned an annualized 14.1% since its inception in December 2011.
This ETF tracks the MVIS US Listed Biotech 25 Index, which focuses on industry leaders. By doing so, BBH ensures that its portfolio of biotech firms has both high liquidity and large market capitalization. Accordingly, its top holdings include notable biotech firms like Amgen, Gilead, Regeneron, Vertex and Moderna, to name a few. The ETF charges a 0.35% expense ratio.
Invesco Nasdaq Biotechnology ETF (IBBQ)
“Robust merger and acquisition activity, the ongoing commercialization of COVID-19 vaccines and treatments, and the potential for high-value artificial intelligence-enabled biotech platforms could serve as a catalyst for biotech stocks in the near to medium term,” says Rene Reyna, head of thematic and specialty ETF strategy at Invesco. For passively investing in biotech stocks, Invesco offers IBBQ.
“IBBQ tracks the Nasdaq Biotechnology Index, a nearly three-decades-old index methodology that remains straightforward, transparent and befitting of a true industry benchmark,” Reyna says. Currently, the ETF holds 267 stocks listed on the Nasdaq that are classified as biotech or pharmaceutical. Thanks to IBBQ’s passive indexing strategy, IBBQ costs an expense ratio of just 0.19%, the lowest on this list.
Global X Genomics & Biotechnology ETF (GNOM)
“Other biotech ETFs are known to, for example, include care services like Teladoc Health Inc. (TDOC), semiconductor firms like Nvidia Corp. (NVDA) and medical device firms like Butterfly Network Inc. (BFLY),” Agosto says. “These sectors could benefit from the broader biotech and genomics trend but are less concentrated.”
For exposure to pure-play biotech stocks, Global X offers GNOM.
This ETF tracks the Solactive Genomics Index. “GNOM specifically only includes firms that fall into one of our four key segments for genomics biotech, meaning at least 50% of each firm’s existing or expected revenue comes from either gene editing, genomic sequencing, genetic medicines and therapies, or computational genomics and genetic diagnostics,” Agosto says. The ETF charges a 0.5% expense ratio.
WisdomTree BioRevolution Fund (WDNA)
“If the 19th century was the century of chemistry and the 20th the century of physics, the 21st will be the century of biology,” says Jamie Metzl, technology futurist and special strategist for WisdomTree. “As we unravel secrets about DNA and deploy that knowledge to reengineer biological systems, revolutionary advances may transform industries.”
To capitalize on this trend, WisdomTree offers WDNA.
WDNA tracks the proprietary WisdomTree BioRevolution Index, which has a multisector, globally diversified focus. “The ETF also can be used to complement core portfolios with innovative megatrends in the biotech space and satisfies demand for genetics and biotechnology investments with strong growth characteristics,” says Jeremy Schwartz, global chief investment officer at WisdomTree.
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Update 07/17/23: This story was previously published at an earlier date and has been updated with new information.