On a recent plane ride from Phoenix to Philly, I was leafing through a copy of the San Francisco Business Journal. I was taken aback by a story on the emerging trend of biopharm exchange-traded funds (ETFs), and how much of an impact they're
having on Wall Street and on investors.
The story opened with this clever gambit: "Bill Kridel wants to give you exposure to cancer and only cancer, if that's what
you want. If neurodegenerative disease is more your speed, or cardiovascular disease is what you're in the market for, he
thinks you should have that choice. Or, if you prefer, get them all."
Kridel is well known on Wall Street, and also in executive boardrooms at big biopharm companies across the globe. He is the
founder of the investment banking firm Ferghana Partners, a big player in life science mergers and acquisitions, divestitures,
and private placements.
So it's not cancer that Kridel is happily spreading, it's the chance to invest in an exchange-traded fund chock full of companies
engaged in the fight against cancer—and to profit handsomely by doing so.
THE ETF ERA
Kridel is hardly alone. A burgeoning number of biopharm-based ETFs are popping up on the landscape, offering the opportunity
to climb on the backs of companies fighting infectious diseases or respiratory pulmonary diseases. Currently, among the top
life sciences ETFs (in terms of investment) are SPDR Biotech ETF (XBI), PowerShares Dynamic Biotech & Genome (PBE), IShares
NASDAQ Biotechnology (IBB), First Trust AMEX Biotechnology (FBT), and the Biotech HOLDRs (BBH). Some of the funds hold as
few as 20 biopharma stocks and some hold 200, and each offer their own risk–reward ratio. I'll leave the performance issue
to another column.
The question I pose today is, Why ETFs at all?
First, I like what the ETF community is offering. Exchange-traded funds may be the one exception to an old rule—that new investment
products cooked up by Wall Street's "rocket scientists" help them make money more than they help you.
How do they work? Simple. Take a mutual fund and trade it on a stock exchange, and you have an exchange-traded fund, or ETF.
While ETFs contain at least dozens and sometimes thousands of individual securities, you still buy or sell them as a single
unit, just like individual stocks. ETFs often make more sense than mutual funds for short-term trades and for very-long-term
An ETF is a basket of securities that is designed to track an index—a broad stock or bond market, industry sector, or international
stock market, ranging from the widely known, such as Standard & Poor's 500-stock index, to the virtually unheard of, such
as the Dow Jones US Basic Materials Sector index. Since 1993, when the American Exchange ("the Amex") began trading Standard
& Poor's Depositary Receipts, which track the S&P 500, ETFs have grown in number and diversity. These funds are traded like
stocks, with the majority of them listed on the Amex.
The underlying markets of ETFs, however, are more similar to stock index futures and index mutual funds, which makes them
more comparable to these products rather than to stocks. From a trading standpoint, ETFs have numerous benefits over mutual
funds (Table 1), and depending on your goals and style, ETFs might be the best instrument available.
ETFs are very user friendly. You don't need to learn the fine points of how ETFs operate to use them. In essence, an ETF's
sponsor buys stocks or bonds in the proper quantities to build baskets of securities that reflect an index. The sponsor then
sells the ETF on the stock market. Individual and institutional investors buy shares of the ETF from the sponsor and from