16 July 2014

The Answer is Yellen in the Wind [updated]

By now y'all have heard about the Yellen remark that small cap biotech is over-valued:
Valuation metrics in some sectors do appear substantially stretched -- particularly those for smaller firms in the social media and biotechnology industries, despite a notable downturn in equity prices for such firms early in the year.

As it happens, that wasn't in the speech, but in this paper with the speech.

What she said in the speech got little notice (the Times guy did, though):
"Accordingly, we are closely monitoring developments in the leveraged loan market and are working to enhance the effectiveness of our supervisory guidance."

In other words, we're keeping an eye on the banksters. Doesn't get much play, alas.

The thing is, small (esp. micro-) cap biotech is heavily a retail playland, where plungers are hoping that their ship will come in; Foobaz Oncology really does have The Cure and the smarter-than-the-pros plungers will get their 10-bagger. Fact is, Idera did that (go multi-bagger, not cure cancer, to be clear), and more over the last year and a bit. Went from $.19 to about $6.50; fallen back to Earth since. So, yes there are multi-baggers to be found in *-tech. GT Advanced Tech when Saturn lift vehicle when it was announced that Apple had paid it to make sapphire. Turns out, Apple didn't quite to that, and GT has too fallen back to Earth.

But, the report is quite right: because *-tech is in the business of doing new things, the FOTM respawns quickly, and the plungers go off and chase a new one with some frequency. The result is ludicrous valuations, using standard metrics. And, of course, standard metrics don't mean much in most small cap *-tech since they're not yet producing anything. One is betting, more explicitly than with other sectors, on a compound or widget that might never exist or, if it does come to exist, never work. How's your Apple Newton doin'.

[update]
Seems one can't win for losin'. One Mark Schoenbaum takes issue with "Yellen" and is quoted thus, from CNBC:
"When I look at P/E ratios in biotech, I'm really asking the question, 'Are we in a bubble?' 'cause I think what the Fed perhaps - and I'm not a Fed observer - but I'm told what the Fed is looking for perhaps is signs of bubble."

I don't watch CNBC, so I'll take the report as accurate. As explained before, Yellen didn't say what Schoenbaum says she did. She didn't say it at all. The statement was in a staff report. Moreover, as Schoenbaum conveniently ignores, the report didn't talk about biotech globally, but small-cap biotech. For an analyst, he's some combination of sloppy, stupid, and lying.

To see that the Fed might just be right, go to Yahoo! finance (or whatever) and run a two year compare chart with PBE and the S&P 500. As the signs say in the NYC subways, "Mind the gap!!"

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